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Defining The Business Value Of Technology
January 10, 2000
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A new alliance with Microsoft could give Corio a boost
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or Jonathan Lee, founder of application service provider Corio Inc., and George Kadifa, the company's president and CEO, the past few months have been hectic but unusually fruitful. As the two arranged a final round of financing before filing for an initial public offering, they wound up-almost by accident-landing a major strategic partner: Microsoft.After two months of negotiations, Corio will reveal this week that Microsoft has invested $10 million in the company as part of a $46 million third round of financing. More important, Microsoft agreed to co-develop applications that will run on Windows 2000 and be hosted by Corio; it has given Corio permission to host other Microsoft applications in the future.
As the ASP market evolves, major software vendors are scrambling to form strategic alliances with key ASPs. During the past year, Corio has struck deals to host PeopleSoft Inc.'s enterprise applications and Siebel Systems Inc.'s customer-relationship management software. The alliance with Microsoft puts upstart Corio in a position to become a major force in the ASP market, which is expected to increase to $22.7 billion in 2003, from $2.7 billion last year, according to Dataquest. The problem for Corio, and other ASPs in pilot programs with Microsoft is that Microsoft still hasn't laid out a clear road map for its ASP plans.
Corio and Microsoft are still discussing which Microsoft applications Corio will offer. So far, the two have agreed that Corio will introduce Office 2000 next month and Siebel's CRM suite running on Windows 2000 and Microsoft SQL Server 7 next quarter. Corio will also host an E-commerce offering running on Microsoft's platform, but neither company would be more specific. Pricing hasn't been hammered out because Microsoft is still figuring out how to work with ASPs while protecting its lucrative software sales (see story).
ASPs have signed up mainly small companies that lack the IT staff to install and maintain enterprise applications. Two-year-old Corio is among the few providers targeting fast-growing midsize companies, and its approach seems to be working. Corio has 370 employees, up from 180 in September. It signed 18 of its 39 clients, including Emeritus, Enstar, and USatWork.com, just last month. And the latest round of financing brings its total funding to $71 million.
"Corio is certainly set up to be a leader in the middle market, particularly for companies that want a comprehensive ASP solution tailored to their industry," says Randall Mehl, senior VP of investment-research firm Robert W. Baird & Co. "It's very important for Corio to be able to offer enterprise solutions that span both Windows NT and Unix."
IT managers agree. "Customers will demand the latest and greatest applications, especially on NT," says Roger Lerner, VP corporate controller for Excite@home, which rents PeopleSoft applications from Corio. "Having Microsoft's commitment to work with them to make sure those applications are delivered may put Corio ahead of other ASPs trying to do it on their own."
When Lee set up Corio, his goal was to create a company that could provide a package of services around the applications it offers. Last year, Corio developed what it calls its Orion Integrated Applications, proprietary middleware that allows interoperability of multivendor applications. The company last year pre-integrated PeopleSoft financial applications and Siebel CRM software. Orion lets Corio customers using both apps, which Corio runs on Unix, transfer data between the applications without any additional integration work on the front or back ends. Corio will use Orion to integrate Unix apps with Windows 2000 programs.
Lee says Corio's success depends on its having a platform that can handle delivery of one application to multiple business clients and applications designed to be delivered that way. It's working with partners to achieve that.
Last August, Corio forged a relationship with Concentric Network Corp., a network and data center services company, to provide Corio with the underlying facilities and IT infrastructure for Corio's hosted apps, letting the ASP focus on managing applications and customer relationships. The move has been beneficial in several ways.
Concentric had teamed with Microsoft earlier to develop applications to be hosted on its Windows NT servers. Microsoft invested $50 million in the network provider, which plans to sell digital subscriber line products packaged with some Microsoft applications to small and midsize companies, says James Isaacs, Concentric's VP of business development.
While Corio and Concentric both host apps, Concentric's main business is providing infrastructure; the company saw Corio as a partner that could help develop Microsoft applications for hosting on its servers. "I thought, 'What better way to create Windows NT hosted applications with Microsoft than to get our partner, Corio, hooked up with Redmond?'" says Isaacs, who told Michael Lightner, head of corporate financing for Microsoft, about Corio.
Microsoft was interested, so Isaacs called Ted Schlein, a member of Corio's board who is general partner at Kleiner Perkins Caufield & Byers, the prominent Silicon Valley venture-capital firm arranging Corio's financing, and asked him to call Lightner. Schlein had just closed Corio's third round of financing, in which Sun Microsystems and Concentric had agreed to invest $5 million each. Later, when Sun executives learned that Microsoft was investing $10 million in Corio, they matched that figure. Seldom, analysts say, have Sun and Microsoft been stakeholders in the same technology company-more evidence that the ASP model is changing the competitive landscape.
The possible partnership with Microsoft intrigued Schlein, so he called Lightner. Schlein says Microsoft wanted to pour an "outrageous amount of money" into Corio. That wasn't what Lee needed. He was planning to file for an IPO in February and didn't want to dilute the existing owners' holdings. "It was the partnership we were interested in, so we declined the large amount and began negotiating a combined partnership and investment deal," Lee says.
Microsoft saw Corio as a company that could help expand the market for Windows 2000 and other Microsoft products because of its substantial customer base, according to Dwight Krossa, group manager for application hosting in Microsoft's developer division. "They have experience in a market where a lot of people are just talking," he says.
Microsoft was careful in choosing Corio. "I must have spent hours on my cell phone with Lightner before our initial meeting," Lee says. "Their questions about our business model left me exhausted."
In early November, Lee and Kadifa flew to Microsoft's Redmond, Wash., campus and negotiated the broad outline of the deal with Mark Chestnut, director of business development in Microsoft's network solutions group.
The agreement lets Microsoft work with a partner that can help it modify its software for delivery by ASPs and develop new products for the market. Microsoft has taken stakes in several other companies that are hosting or will host its Office suite. The aim is to promote its products as a back-end platform and applications for ASPs.
But Microsoft appears to be struggling to develop a coherent strategy for licensing and pricing products that ASPs will offer their clients. Last April, it launched a commercial licensing pilot to gauge demand for hosted apps and to determine terms and conditions for selling to the ASP market. About 30 companies participate in the pilot. Microsoft is testing a variety of payment schemes, including monthly licensing fees, per-transaction charges, and profit- and revenue-sharing arrangements with ASPs that run Windows, SQL Server, Site Server Commerce Edition, and Exchange as their software platform. This week, Microsoft is expected to unveil a pilot program for hosting its Exchange messaging software that includes 14 ASPs, say sources close to company. Already, 15 ASPs have signed up to host Office Online, the hosted version of Office 2000.
However, Microsoft isn't offering volume discounts to the ASPs because it doesn't want to reduce its substantial margins on Office. "This is their cash cow," says Gartner Group research director Chris LeTocq. Companies such as PeopleSoft and Siebel are willing to accept lower margins on software rented by ASP partners because they want to expand the market for their applications, LeTocq says, but Microsoft already has market penetration.
The alliance between Microsoft and Corio may encourage more companies to switch to the ASP model. But it's still unclear just how big a role Microsoft will play in shaping this emerging industry.
With additional reporting by Aaron Ricadela
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