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Brier Dudley's blog

Brier Dudley offers a critical look at technology and business issues affecting the Northwest.

March 13, 2007 at 11:02 AM

Software spending peaking? Merrill’s mixed bag

Software’s been booming lately, with companies spending more now than they did during the Y2K upgrade surge, according to a new Merrill Lynch analysis of U.S. software spending.

Software’s share of total IT spending has reached a record 44 percent. The $200 billion question is what will happen when the cycle ends.

Concerned about poor showings by SAP and Oracle, the firm dissected U.S. software spending reported by the Bureau of Economic Analysis.

First the bad news:

“The data indicates that US software spending is at high levels relative to historical norms and does not have enough cushion if we get spending headwinds.”

On a more positive note: Just because spending is reaching bubble levels, that doesn’t mean there will be a burst, the firm said:

“Our analysis of US Bureau of Economic Analysis (BEA) data indicates that

contrary to popular belief, US software spending has eclipsed Y2K and Internet

bubble levels. Concluding from this that we are poised for some type of a

correction or downswing could be a mistake.”

It may not crash, but the run won’t last forever:

“Part of the reason for this is the steadiness provided by maintenance renewals and in-house spending. The variable portion of the spending pie is the external spend on commercial software, which is relatively more discretionary. Software is a larger industry than ever before, thus it is also more cyclical and susceptible to a macroeconomic slowdown and cutbacks in spending. That said, we don’t sense sharp cutbacks on the cards as we saw during the 2001-2002 downturn but the level of outperformance of US software spending relative to broader IT spending may not be sustainable.”

There’s a silver lining for customers, though: While prices are rising for most products in the U.S., there’s deflation in the tech industry. That means companies are getting more for their money from software vendors:

“Although it is difficult to reach a conclusion based solely on real data, we can observe that software companies are providing greater value for a given level of spending due to the declining prices or deflation.”

Trends are favoring packaged software over custom solutions. That’s also good for the kind of software companies we have around here, but may be worrisome to in-house developers:

“The growth in spending on prepackaged software has been far ahead of custom software and internally developed software. Since 2000, prepackaged software has grown at 9.4% per year, vs. 4.0% for own account software, and well ahead of custom software which has declined at a rate of 3.6% per year. Accordingly, the percentage of total spending invested in prepackaged software has increased from about 28.0% in 2000 to roughly 37.3% in 2005. This was largely at the expense of custom software which saw its share shrink from 36.6% to 25.9% over the same period.”

Merrill called out several well-positioned vendors, including Microsoft:

“Microsoft with Vista/Office 2007, Red Hat with upcoming RHEL 5.0 release and Salesforce.com, WebEx, and Blackboard with disruptive bu iness models should be well-positioned to ride out a potentially choppy spending environment.”

Comments | Topics: Enterprise, Microsoft

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