M&A, Business Models and Ecosystems in the Software Industry

Business Models in the software industry

No matter if in the cloud, on premise or on device, this site has all business models of the software industry.

This page is about business model basics, which business models are popular and less popular in the software industry and the business models of large software vendors.

Business models in the software industry

A business model tells which goods or services are provided by a software vendor and how the software vendor is compensated for the goods and services. Since our focus is the software industry, all businesses provide goods and services around software. We will learn about different business models and we will find out that not all businesses in the software industry are the same. Below we will have a look at the Google business model, the Microsoft business model,the SAP business model and the commercial open source business model.

An operational model tells how the business model is going to be implemented in a specific organization.

A business plan is a time series of numbers describing the execution of an operational model. Before creating a business plan you must create the business model, define how the business model is executed in an operational model. Then you can create a business plan describing how the operational model will perform over a certain period of time.

A general classification of a business model

By extending the classification of business models from MIT Sloan School of Management [Wei+05], we will look at different business models in the software industry. Using this model, you will be able to classify the business model of a software vendor. Later we will show how the different business models are implemented by software vendors.
A business model tells which goods or services are provided by a company and how the company is compensated for the goods and services. The business model consists of three things: the type of goods/services provided, the Business Model Archetype and a revenue model. A business model is a model on type level, which means that it is a generic model showing the type of business, but not how the business is run.


Figure 1: Business models

A business model can be implemented in an operations model. The operations model shows how the business is run. Looking at the three components of the business model each of them gets implemented as part of the Operations model.
The type of goods/services gets implemented in the Production Model. It defines which processes and organizations create the goods/services. For a software vendor, software usually gets created by the development organization by executing development processes.
The business model archetype gets implemented in the business operations model. In the software industry, for the Intellectual property lessor business of licensing software to customers, appropriate processes and organizations will market and sell the software vendor´s solutions to customers.
The revenue model gets implemented in the Revenue generation/collection model. In this chapter we focus on the business model and its components and the choices a software vendor has for each of the three components of the business model.


Figure 2: Business model and operations model

Types of goods

We make use of the Type of Goods and Business Model Archetype defined by Weill et al [Wei+05].Goods are products and services offered. The types of goods are:

  • financial goods (cash and other assets),

  • physical goods (real, physical products, durable and non-durable goods),

  • intangible goods (software but also other intellectual property, knowledge and brand image) and

  • human goods (people´s time and effort).


Figure 3: Types of goods and services


Business Model Archetypes

Business Model Archetypes are basic patterns of doing business. Available archetypes are creator, distributor, lessor and broker.
A creator uses supplied goods and internal assets and transforms them to create a product sold to customers. It is important to know that the main work done by the creator is designing the product. An example is Apple. Apple designs the iPod in California. So Apple is a creator.
A distributor buys a product and provides the same product to customers. Obvious examples are companies in the wholesale and retail industries, like Sears or Saks.
A lessor provides the temporary right to use, but not own, a product or service to customers. Examples are lendors of money, consultants and companies that offer software as a service.
A broker facilitates the matching of potential buyers and sellers. A broker never takes ownership of the products and services. An example is a stock broker. Another example is Google´s advertising business, which matches the advertiser with potential customers.
The following table shows the combination of archetypes and type of goods offered, resulting in 16 different results.


Figure 4: Business model archetypes and types of goods. Source: [Wei+05, 31], amended by author

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Common Business models in the software industry

According to this classification, the prevailing products offered in the software industry are intangible, although most of the companies in the software industry also offer consulting and support services, which correspond to the human services.

Looking at the Business model Archetypes, Software companies usually act as creators of intangible goods (Inventors), but they do not sell the software to customers in a sense of transfer of IP. Example is a software vendor designing and programming a software solution.
As soon as the products are created, software companies act as lessors of intangible goods (IP lessors) by letting customers use the software under a specific license for a defined period of time. A common example is software vendors provide access to their hosted software (SaaS model).
If a software vendor provides products of another software vendor to customers, he acts as distributor of intangible goods (IP distributor). Software vendors also provide consulting services to customers, which corresponds to lessor of human services (Contractor). Two examples are services to customize and implement their solutions and support services.
If a software vendor offers Software as a service offerings, he acts as a lessor of physical rack space and computers (physical lessor) as well as IP lessor for the software used.
Since most software vendors offer a subset of {Inventor, IP Lessor, IP distributor, Contractor}, they have hybrid business models. The most common combinations of business model archetypes and types of goods in the software industry are marked in bold in the following figure.


Figure 5:Typical business models in the software industry. Source: [Wei+05, 31], amended by author

Business model innovation

Under the assumption that we have hybrid business models in the software industry, we can look at interesting cases of business model innovation. Business model innovation means that in an existing industry, one of the players creates a new business model by

  • creating a new combination of goods/services provided, the Business Model Archetype and a revenue model

  • creating a new hybrid business model as a combination of business models.

The impact of this new business model on the industry can be manyfold. It can mean increased competition, but it can also mean disaster for the existing business models. If a massive impact occurs, like penetration pricing by the business model innovator, the term disruptive business model is used.

Disruptive business models are business models that change the rules of the game, e.g. enables offering of free products in a market that did not have free of charge offerings. These disruptive business models are very often hybrid models, which means that the business of providing the free-of-charge product is often funded by one or many other businesses. Popular examples in the software industry are Google´s business model and Microsoft´s business for internet browsers.

Business Models of large software vendors

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According to the classification explained above, we can classify the business models of large software vendors as follows:

Microsoft Business Model




Google Business Model

Google´s business model is a hybrid business model. The search and advertising business is a matchmaker business, for which Google charges the advertisers. With this revenue, numerous other businesses are funded.


SAP Business Model


Open Source Business Models

In the software industry there is a lot of activity around open source. Open Source Software can be provided by a community or by a commercial company. We speak of community open source and commercial open source respectively. Let us look at the products and services involved in both cases and who provides these services and products.


Commercial open source  business models

Besides providing open source software to customers, software companies can leverage open source for their business model in the following ways:

  • Leverage the open source community as a supplier.

  • Provide software to customers under a commercial license.

  • Provide services (consulting, maintenance, support, adaption/extension of open source software) around open source software to customers.


To create a commercial open source business model, software companies choose one or several of these levers. This is why there is no single open source business model out there. Let us look closer at the different advantages.

Leverage the open source community as a supplier

Software vendors often use the open source community as a supplier of software. Almost any commercial software on the market contains components that are under an open source license or uses open source software as a runtime environment. The main reasons to use open source “as supplied material” are quality and cost advantages. Quality advantages have been shown by several studies in the following way: open source software with a community of significant size has a higher quality than similar commercial software.
Regarding cost advantages: for the software vendor, open source comes for free and provides a significant cost advantage compared to programming a similar functionality from scratch. If the software vendor can comply with the license terms of the open source software, this is a viable way to save cost of development.

Provide licensed software to customers

In the industry, we see three ways how commercial open source companies offer software to customers:

  • Offer open source only, no commercial software offered. In this case, the software vendor needs a hybrid business model containing one or more revenue streams to fund the open source business.

  • Offer identical products under open source and commercial products

  • Offer different versions of the same product under open source and commercial license to customers. The software vendor applies versioning, which means that a product with limited functionality can be licensed under an open source license and the full product is available under a commercial license.

Commercial open source vendors offer open source licensed software to their customers. There are different ways, software vendors can add value to the open source software:

  • Create a distribution

  • Create customer specific adaption of open source software as a commercial software, which will be covered in the services section below.

Provide services for open source software to customers

Commercial open source companies provide the following services for open source software:

  • Maintenance

  • Support

  • Implementation

  • Extension or adaption of open source software to a customer´s needs

They often package or change or extend existing community open source software, so the community acts as a supplier of open source software to the software vendor. In some cases the software vendor does not use existing open source software from a community, but chooses to offer its proprietary software under a dual licensing strategy, commercial and open source licenses.
Here is the overview of the commercial open source business model.