With momentum surging behind on-demand business software, SAP delivered its response last week. Business ByDesign, a software service for business functions such as order management, customer relations, and analytics, will be available early next year for $149 a month per user. But the new offering came with one shocking caveat: It's appropriate only for companies with 100 to 500 employees.

"I'm now 25 years in this company, and I can say it's the most important announcement I've made in my career," SAP CEO Henning Kagermann said during a launch event in a midtown Manhattan theater. Kagermann was just as emphatic, however, that the new product won't interest the current customers of its high-margin on-premises software. "It's not a solution for larger enterprises," he said. "It's not a solution for midmarket companies who have high demand, deep demand for vertical solutions."

In contrast, other software-as-a-service vendors are starting to land some big customers. Chiquita Brands just signed up to put 25,000 employees on the on-demand human resources software from startup Workday. Merrill Lynch has 25,000 people using Salesforce .com's CRM software. ConAgra Foods, Domino's Pizza, Eastman Kodak, JetBlue Airways, and Toyota Motor Sales use Procuri's on-demand supply chain management software. (Ariba last week announced a deal to acquire Procuri for $93 million.)

SaaS isn't for heavy lifting, says Kagermann Photo by AP

None of those deployments is as complicated as full-scale ERP, but that's part of the story. Companies are looking for simpler IT, and increasing numbers think software as a service is part of the answer.

To get an idea of the momentum behind SaaS, consider that 7,000 people attended Salesforce's Dreamforce user conference in San Francisco last week. That's half the number that attended SAP's Sapphire user conference in Atlanta in April. SAP is the world's largest business application vendor, with annual revenue of about $13 billion and a massive worldwide developer ecosystem. Salesforce is tiny by comparison but growing at 49% a year, projecting revenue this year of more than $700 million, most of it from on-demand CRM software.

Salesforce is trying to expand beyond CRM. Last week it announced a new development environment for the platform it offers developers that lets them build apps based on its Apex language. The new environment, due next year and called Visualforce, is for creating user interfaces with HTML, Ajax, and Adobe Flex, so developers won't be restricted to Salesforce's look and feel. Salesforce also lets other vendors sell on-demand software to Salesforce customers through its AppExchange marketplace, in exchange for a cut of the monthly subscription.

SAP's correct that on-demand software isn't right for every company or application. Most companies' software infrastructure will evolve into a hybrid of the two models. Applications that need to support a high number of transactions, for example, will probably continue to work best on premises, since on-demand vendors generally put some limit on database access in a given time period, says Marc Friedman, CRM manager at Acumen Solutions, an IT services firm that has deployed Salesforce and other on-demand products for clients. But companies under pressure to deploy quickly should consider on-demand software, he says.