Channel Business Solutions - 1 March 2008

One of the- biggest challenges facing growing businesses today in the UK is a lack of access to finance, not only essential to help them develop as a business but - crucially for the ICT channel - to invest in new technologies. Meanwhile, the ICT companies themselves are forced to cope with a changing business landscape that sees a move from a sale-out to a revenue-based business model. Christine Horton looks how the channel is financing this change, and how vendors and finance' providers are support resellers' Changing relationships with their customers.

For many ICT companies, what they sell and how they sell it has changed considerably over the last two or three years. The challenge now for many solution providers lies in making the transition from a box-shifting to a services-led approach, and managing the cash-flow change that is inevitable with this shift.

At the same time companies must continue to operate in an increasingly competitive environment and deal with the everyday business challenges such as increased overheads, late payment by customers and rising bank charges while seeking ways to protect cashflow and create greater financial stability into the longer term.

There are, however, a range of options available to ICT companies as well as a number of ways to attract and retain their customers' business. Interestingly, many are choosing not to go down a traditional finance route.

Independent leasing

Markets such as reprographics have long-embraced leasing, and now ICT is catching up - about a third of sales in the ICT space are currently from independent leasing. Companies such as Syscap, Siemens Financial Services and GE Capital are among the most recognisable finance providers in the ICT space.

Indeed, a number of companies are choosing independent or vendor financing over traditional methods as it helps them to protect any existing credit the business may have in place with financiers. Instead of exhausting their existing credit lines by making an IT acquisition, companies can use unsecured lending facilities or leasing to invest in IT solutions, allowing them to invest in larger and more complex technology-based solutions that they may not have previously been able to afford. Also, banks tend to lend on the strength of a company's balance sheet, whereas with some independent financial providers, the balance sheet is secondary.

In fact, respondents to research recently conducted by Syscap cited the main reasons for using IT finance were because it "allows acquisition without cash outlay" (60 per cent), followed by "allows capital to be deployed elsewhere" (57 per cent) and "to preserve cashflow" (39 per cent.)

"Existing and emerging pricing models, such as utility, ASP or 'pay as you go' can be a challenge as they can leave resellers with a financial shortfall," says Syscap CEO Philip White. "IT finance and leasing offer a straightforward way to develop new pricing structures that meet customer demand for pay-over-time or pay-per-use models without resellers experiencing cashflow problems they can ill afford."

Managed services

So what about this moved to managed services? How can a traditional reseller adjust its business to accommodate a new, revenue-based model? Says White: "With hardware now pretty much a commodity, it is not surprising that many resellers are turning to services provision to maintain margins. However, not all IT providers can afford to evolve their business models to meet this growing demand for managed services, and often expensive set-up costs are seen as an insurmountable barrier.

"A typical managed service agreement includes the provision of (often expensive) equipment, acquired by the vendor for use by the customer, who only wants to pay over time for the services running on the equipment, not the equipment itself. This creates a large financial shortfall, which the vendor has to try to recover over the life of the managed service contract, typically three to five years, but occasionally up to ten or fifteen. In addition, the vendor's balance sheet is burdened with those assets, whilst the P&L must bear the depreciation charge.

'A good partner, who understands the market proposition fully, will help them not only to overcome the obvious cashflow requirements of the upfront costs, but also to recognise more revenue at the outset. If it's done properly, the vendor bears no set-up fees as these are passed on to the client through the vendor's own framework agreement. A capable finance partner will provide documentation advice and ensure that finance is properly catered for within the client's service level agreement. Not only does this eliminate the financial burden, it also removes the assets from the balance sheet.

"Structured finance via a specialist finance provider enables managed service providers to assign the installation or set-up fee, and to receive this fee in full at the point the service is delivered to the customer. Crucially, the finance provider takes over the payment obligation that is due from the customer and therefore removes the credit risk from the reseller, enabling them to concentrate on the job at hand - managed service delivery."

Paying for IT over time, with a flexible lease solution has obvious benefits for an organisation's cashflow, but there are also considerable tax advantages, Says White: "Technology acquired using a lease is 100 per cent tax deductible, meaning businesses can claim back the tax on every penny. The savings can be substantial, even after calculating the interest payable on the lease, often making IT acquired using a lease less expensive in real terms than IT acquired with cash or credit."

Challenges

Meanwhile a report by finance company Siemens Financial Services last year found that late payment amongst smaller IT businesses has increased dramatically over the last two years, from 67 Days Sales Outstanding (DSO) in 2004 to 152 days in 2006.

Siemens says the study highlights a need for channel companies to insulate themselves against late payment by offering customers leasing options at point-of-sale (as an alternative to cash purchase) as well as the evident opportunity to make greater use of receivables finance techniques (factoring & invoice discounting) to alleviate their cash-flow pressure.

Says Peter Austin, general manager, flow business at Siemens Financial Services: "It is an unfortunate reality that late payment is often accepted as the norm in our business culture, and smaller companies are least able to shoulder the burden of late payment by their larger customers. But for the majority of IT resellers, the situation has reached breaking point - how can they sustain a healthy business when days sales outstanding, or debtor days, run at 150? With already paper thin margins, the channel can ill afford to bank-roll their customers in this way.

"One solution that can ease cashflow pressure is to use receivables finance, where finance is raised against the reseller's outstanding invoices to unlock immediate funds. But taking a longer-term view, smaller resellers should learn from their mid-size peers who are using point-of-sale finance. One of the many benefits of this approach is that the invoice for the product and service is sent to the finance firm, who pay immediately, effectively reducing debtor days to zero.

Vendors

Another option available to IT companies is vendor financing, which is often based on a partnership with an existing capital financing organisation - for example, Siemens Financial Services operates SAP Financing. Avaya (whose financing comes from the Avaya Financial Services arm of its business through CIT Group Inc.) recently announced its '0 per cent deal', which is designed to help customers buy the technology they needs, even if their budgets are tight. Explains Mark Mitchell, VP, EMEA channels for Avaya: "This is a particularly good option for SMEs and mid-market companies as they tell us that they want to buy equipment now but cannot always get the upfront investment costs signed off no matter how good the ROI figures are that they present to the board. Competitive financing deals help them overcome these obstacles by letting them pay for the equipment as it is used, instead of in advance.

According to Mitchell, the vendor "has the ability to tailor finance options to particular partners, markets or customers, which clearly has advantages over standard financial institutions which are not as close to the specific market we are in."

Adds Brian Maddison general manager for Microsoft Financing: "The primary reason for lack of growth for small businesses is often the lack of capital, vendor financing, such as Microsoft Financing, enables a company to get the technology it needs quickly but also cost-effectively. Therefore, it allows small and medium sized companies to get up and running with a new technology, while paying for it over a period of time."

"Microsoft's Service Provider License Agreement (SPLA) enables service providers and ISVs with a hosted offering to license Microsoft products on a monthly basis to provide services and hosted applications to their end customers. For example, the SPLA offers a monthly usage-based cost, therefore you pay only for what was made available the previous month. This helps partners meet their customer's individual needs and overcome the peaks and troughs in revenue that SMBs can experience. Small businesses may not require the same amount of software on a month to month basis; therefore the partner can tailor the solution to the businesses needs."

Vendors can also tailor their finance offerings to partners offering specific technologies. For instance, VegaStream has established VegaStream Capital to help its parnters sell IP services to end users. The aim of the financing is to help ITSPs drive the churn of ISDN services for SIP and so make the value proposition stronger.

"The VegaStream model has been specifically designed to help get the monthly costs of a SIP service to be significantly lower than an equivalent ISDN service," says Steve Davis, EVP sales and marketing at VegaStream. "It also avoids the capital purchase of a gateway by the reseller, ITSP or end-user."

Distributors

Meanwhile, distributors are also getting in on the act. Storage distributor, Hammer, last year launched a finance facility, and views the service as an important "value add" for its reseller partners.

"This provides an exciting new opportunity for our reseller partners to sell much higher-value storage solutions," explains Hammer managing director, James Ward.

'Previously, many smaller resellers would have struggled to source the finance needed to support larger deals," he says. "In offering extremely competitive rates, our objective is to enable reseller partners to drive higher acceptance levels and quicker decision-making."

There is a compelling argument for integrating finance into the sales process. Says Syscap's White: "By developing the kinds of payment options that customers actually want, resellers will be able to do more business, sell larger solutions, develop more profitable relationships with their customers and ultimately improve their own financial stability into the longer term."

SURVIVING THE CREDIT CRUNCH

The jury is still out on the effect that America's sub-prime mortgage crisis will have on the UK information technology industry. Gartner estimates that growth in technology spending worldwide will be 5.5 per cent, down from about eight per cent in 2007, but the company has also predicted a major growth in business process and outsourcing for 2008. Projects such as the 2012 Olympics and the extension of the London tube network will create significant opportunities for IT professionals.

As IT resellers look to trim spending, many may bring their service offerings, which are often supported by external firms, back in-house. Others may demand a more flexible business model from their contractors to suit the unpredictable climate. The credit crunch may also serve as an excuse for companies to shed the excess staff they have invested in to maintain or improve service levels during boom times, so we may see staff reductions for IT departments. This could present an opportunity for IT services companies as more resellers look to outsource their service offerings, such as customer installations, in a bid to cut costs.

Recent examples of heavyweight outsourcing contracts include BNP Paribas' signature of £50 outsourcing deal with Atos Origin, and Royal Dutch Shell's announcement of its intention to outsource its entire ITfunction to EDS.

The traditional outsourcing model, based on a long-term, fixed contract, however is being redefined as flexibility becomes a high priority. Many larger companies want to outsource on a case by case basis and mix and match solutions. It will be interesting to watch how the multinational IT services firms navigate their way through the fallout of the credit crunch and use these different options to meet their own resourcing and outsourcing requirements. As they shift their approach to adopt a more flexible model, enabling them to stay lean and highly efficient, we may well see them rise above the negative economic climate to claim new opportunities for profit and growth.

www.syscap.com

By Toby Strauss, executive chairman, Orderwork