Internet Economics

Final Paper

ERP Systems in the Cloud Opportunities and Total Cost of Ownership

Calculation

Michael Kruk 9104120120

2012/12

Michael Kruk 2

Table of Contents

1. Introduction .......................................................................................................... 3

2. Cloud Computing and ERP Systems ................................................................... 4

2.1 Physical location of ERP data in the Cloud ....................................................... 5

2.2 ERP Systems in the Cloud ............................................................................... 6

2.3 Benefits for small- and medium-sized companies ............................................. 7

3. Total Cost of Ownership: Comparison ................................................................. 7

3.1 Implementation ................................................................................................. 8

3.2 Running costs ................................................................................................... 8

4. Conclusion ........................................................................................................... 9

Michael Kruk 3

1. Introduction

“In the wake of the 2008-09 financial and economic crises, firms have looked for

ways to consolidate their ICT infrastructures and services and increase returns on

their investments. Cloud computing appears an attractive option.” (OECD 2010, p.

148)

Cloud computing is a concept that has gained increasing attention over the last years

In many ways it is not a completely new phenomenon as it incorporates elements of

IT outsourcing which has been available for more than 10 years. There are clear

signs that companies’ interest in cloud computing services is rising: “Demand for

cloud computing services is expected to continue to increase; according to IDC, the

market for cloud computing services will grow by around 40% in 2010”. Some

authors argue that cloud computing represents the future way of using information

technology in businesses. They point out that obtaining computer power over the

Internet could have a profound impact on the whole computer industry and rid

companies from having to install software on their own internally operated systems.

As a consequence, they will not need to purchase or maintain hardware and software

that can simply be rented online.

Cloud computing, like similar forms of IT outsourcing, is providing certain advantages

for user companies:

• The decrease of capital cost because the customer does not acquire hardware

or licenses upfront any more

• Cost transparency e.g. through pay-per-use or subscription models

• The decrease of operational costs

• Increased flexibility for business processes due to lower switching cost

• Guaranteed service level

• Simplicity through commodity services

On the other hand there are still some open problems:

Michael Kruk 4

• Permanent access needed (if Internet connection is down the service is down)

• Service provided can be down

• Sensitive or proprietary information which cannot be stored outside the

company does not allow for cloud computing in certain application areas

• Integration of applications run by different providers

• Lock-in with vendors (getting your data “out” when you want to move is

connected to high moving fees)

• Some vendors are not established players and might not be able to sustain

their operations for long

2. Cloud Computing and ERP Systems

This paper investigates the impact that cloud computing might have on the way

standard ERP systems are operated. Also at the end of the paper there will be a

calculation of the total cost of ownership of an cloud-based ERP system.

ERP systems are integrated software packages with a common database that

support business processes in companies. They comprise different functional

modules that reflect the departmental structure of a company (accounting,

procurement, sales, production, warehousing, etc.). They are developed and offered

by ERP vendors and sold as “standard software” that fits the needs of many

companies, often optimized for certain industries (industry or vertical solutions).

Since ERP systems support the core processes and have to reflect the

organizational structure of a company they come in many different sizes and

specializations. Most importantly, they usually go through a substantial customization

process to make them fit to the needs of a particular company and they often need to

be electronically linked with other software systems. The feasibility of such

adaptations need to be addressed before the decision for cloud computing is taken.

The parties that need to be discussed when looking at cloud computing as an

operations model for ERP systems are the following:

Michael Kruk 5

1. User company (the company that uses the ERP system for their daily

business processes)

2. ERP vendor (the company developing and selling licenses for the software)

3. ERP implementation partner (the company that supports the user company

with the implementation)

4. Cloud service provider (the company running the cloud environment)

The following chapter will deal with the question where the data of an cloud-based

ERP system is physically stored. This issue is a big concern for sensitive company

data.

2.1 Physical location of ERP data in the Cloud

While the physical location of the hardware that enables cloud computing is meant to

be transparent to the user, and a user has no technical need to be aware which

server running on which host is delivering the service, nor where the hosting device

is located, the physical location of the hardware is currently a decisive factor for the

decision to use cloud computing for enterprise systems. Companies prefer service

providers within their own country (i.e. within the same legislative system). The ERP

SaaS provider Scopevisio is putting a lot of effort in building “trustworthy”

environments which are placed in the Frankfurt banking cluster in Germany.

Amongst the various concerns expressed by potential adopters and watchers of

cloud computing security, concerns about privacy and data protection are prominent.

Furthermore, organizations can be further restrained by local laws in countries where

they operate which prevent certain kinds of information to be kept off-shore.

Problems of jurisdiction might arise where the cloud crosses jurisdictional boundaries.

Other risks that are concerning the physical location include how organizations can

make sure quality of service is really achieved when outsourcing IT services to a third

party.

Michael Kruk 6

2.2 ERP Systems in the Cloud

ERP systems are the hardware and software systems that support business

processes and are therefore considered as complex systems that span different parts

of the enterprise and often even beyond company borders.

A large part of the current discussions on cloud computing runs equally with

advances in social software services like Facebook and Google. Many cloud

offerings are suited for private use and use in small companies.

For the further understanding of ERP systems in the cloud, three important concepts

have to be explained first. Those concepts are Iaas, PaaS and SaaS.

IaaS – Infrastructure as a Service When using IaaS for the operation of an ERP system the user company “rents” the

computing resources from a cloud service provider. In this setting the user company

can still freely choose the ERP vendor of the ERP system and buy the licenses for

the software. The market already indicates that this will be a viable operations model

and ERP vendors (or implementation partners) and cloud service providers are likely

to form alliances offering the user company a combined service. Vertical integration

happens when the ERP vendor offers IaaS themselves and become a cloud service

provider.

PaaS – Platform as a Service This level of the cloud model is not really suited for the provision of an ERP system,

as mentioned by experts. Platform services provide resources in a pre-defined

software environment that are attractive for software development, testing, or the

distribution of software but not for the actual operation of an ERP system.

SaaS – Software as a Service In the Software-as-a-Service model the ERP system is provided by the cloud service

provider. The roles of cloud service provider and ERP vendor are merged in this

setting (vertical integration). There are a number of new players coming up with

offerings in the last years (in Europe e.g. e-conomic and Scopevisio). Some

Michael Kruk 7

“traditional” ERP vendors have developed new versions that can be deployed in the

cloud (e.g. SAP Business ByDesign). This allows user companies to choose their

preferred operations model (e.g. running the ERP software in their own internal cloud

or in an external private cloud).

2.3 Benefits for small- and medium-sized companies

SaaS is promoted by IT providers to be mainly relevant for small- and medium-sized

companies that lack necessary IT capabilities and resources. Experts argue that

cloud computing is likely to become commercially useful for many small and medium

enterprises (SMEs) due to its flexibility and pay-as-you-go cost structure, particularly

in the current climate of economic difficulties.

However, first empirical studies have found that large enterprises also see

considerable opportunities applying SaaS in different. The software level of cloud

computing will benefit small companies because it can lower the barriers to the use

of ERP systems in general. SMEs can have access to full-fledged ERP systems

without the need of running their own IT department or to hire an expensive IT

consultant.

3. Total Cost of Ownership: Comparison

A total cost of ownership calculation can help to better understand which benefits a

SaaS ERP system can bring especially to small- and medium-sized companies. In a

TCO calculation (total cost of ownership) it is important to differentiate between direct

costs and indirect costs. Direct costs can be directly related to a specific hardware or

software but indirect costs are caused indirectly by the system. Those indirect costs

are for example costs for instructing employees about using the ERP system, the

costs for maintenance or the costs created by a system downtime.

The TCO calculation done in this chapter will compare the costs of three systems. A

SaaS ERP system (in this case SAP ByDesign), which is a relatively new solution for

Michael Kruk 8

small- and medium-sized companies. Also an on-premise ERP system will be

analyzed, which is fully located within the company. Last but not east I will also

compare an Outsourcing solution where the hardware and software is run by an

outsourcing partner.

3.1 Implementation

The calculation of the prices is based on internet research and calculated for a

company with 20 ERP users (=20 user licences). All costs are in Euro.

SaaS ERP On-Premise ERP solutions

SAP ByDesign

On-Premise within company Outsourcing

Erstimplementierung Costs of implementation 63.000,00 45.000,00 50.000,00 Licences for applications 0,00 32.000,00 32.000,00 Hardware + software

Server + Software 0,00 3.200,00 0,00 Backup & security 0,00 800,00 0,00 Infrastructure 0,00 1.200,00 0,00 Installation (5 days of work) 0,00 4.000,00 0,00

First implementation, total: 63.000,00 86.200,00 82.000,00

As shown in the table above, the SaaS ERP solution causes the lowest costs of

implementation as no on-premise hardware is needed and also there is no need for

creating a sophisticated infrastructure or security measures. The only costs that

occur in this case are the implementation costs for setting up the system.

3.2 Running costs

The following table will illustrate the running costs per year for those ERP solutions.

Michael Kruk 9

Running costs per year SAP byDesign On-Premise Outsourcing Main application (licences) 31.920,00 0,00 0,00 Maintenance Software 0,00 5.200,00 0,00 Maintenance infrastructure 0,00 2.000,00 0,00 Internal costs

Employees 18.000,00 84.000,00 36.000,00 External costs

Outsourcing 0,00 0,00 15.439,60 Running costs per year total: 49.920,00 91.200,00 51.439,60

When it comes to the running costs, SAP byDesign is again the cheapest solution, as

only licence costs for the users have to be purchased, which is 133 Euro per user.

Also it is important to say that there are no costs for maintenance or software

updates because the cloud provider SAP does those tasks automatically.

4. Conclusion

There are certain challenges which still need to be addressed before cloud

computing will become the leading paradigm of IT consumption. Experts says that

security, performance, availability, integration with in-house IT and the difficulty of

customization are some of the main current issues.

Another great obstacle to the widespread adoption of cloud computing and SaaS is

interoperability amongst the different cloud providers and lack of an industry platform.

But as the TCO calculation showed, a SaaS ERP system can be a very good

opportunity for small- and medium sized companies to operate such an system at low

costs and with high efficiency. This way companies can reduce costs for expensive

infrastructure and IT departments by simply using SaaS technology and shifting

those problems and responsibilities to the cloud provider.

As mentioned before, there are still problems and issues with cloud based systems,

but this technology will become much more important and relevant for companies in

future.