How Can You Make Money Giving Something Away?

Open source software
For the sake of this article we will define "open source software" as being "free." We recognize that this is not technically correct but it will suffice for our purpose.

Two questions
Two questions must be answered to justify utilizing open source software: How is it possible to stay in business if you give your product away? What are the real costs of implementing software?

Question 1:
Q. How is it possible to stay in business if you give your product away?

A. The answer is that you sell something else that is directly related to your "give away" product.

This question implies, "Why should we use a product from a company that is going to go out of business because they aren't making a profit?

Why "give away" your product?
Obviously, companies need to make a profit to stay in business - you can't lose a little money on every transaction and "make it up in volume." However, selling product A at a loss (a "loss leader") is perfectly fine if you know that product A requires large amounts of (highly profitable) product B.

A few examples will quickly illustrate how a company can "give away" a product and thrive.

Gillette
The Gillette Safety Razor was invented in 1895. The razor was either sold below cost, or given away. How is Gillette still around over 100 years later? They made their profits selling replacement razor blades. Each safety razor "given away" created a customer for replacement razor blades (which they sell at a high profit).

The video game industry
Ok, if you've paid $500 for one of the "next generation" video game consoles it is hard to believe they are "giving them away." However, according to some analysts, when Sony released the PlayStation 3 (PS3) cost per unit was $800. The PS3 initially sold for $499 - $599 (which is not unusual).

How do they stay in business? Profits in the video game industry are made selling the games - not the consoles. Each console sold at a loss creates a customer for the high profit margin games.

Printers
Over the life of any printer the "supply" costs (ink, toner, paper) are going to exceed the cost of the printer. This is especially evident with low cost inkjets.

Several companies (e.g. HP, Lexmark, Epson) sell "low cost" inkjet printers (less then $30). In this instance the low cost may be a case of efficient manufacturing - I can't say for sure that they are selling these printers at a loss - but anyone who has bought replacement inkjet cartridges quickly finds out where the big profits are being made.

A quick search on Amazon.com showed a replacement color inkjet cartridge (for a $30 printer) selling for $20.

How does this apply to open source software?
Open source software is simply another form of using a "loss leader."

Red Hat (RHT) is a good example of a profitable open source company (they reported a profit of $20,283,000 for the period ending November 2007).

Red Hat's "loss leader" is their version of Linux. They have two freely available Linux distributions, a "development" version (Fedora) and an "Enterprise" product (which is also freely available but requires a little more work to obtain).

Red Hat's "high profitability" products are various "subscriptions" for Red Hat Enterprise Linux. They provide multiple subscription benefits - the most notable being updates and support.

To adapt the well-worn phrase: "Red Hat is a SERVICE company that happens to be in the software industry."

It is worth noting that IBM (Big Blue) has also embraced open source software. From my position (which is nowhere close to anyone remotely involved with IBM), they are a services and hardware company that is leveraging the "free" nature of open source software through the services required to implement the software.

Which leads us to our second question.

Question 2:
Q. What are the real costs of implementing software?

A. The cost of "buying" the software is usually less than the cost of "implementing and supporting" the software.

This question is harder to nail down due to the extensive nature of "software."

Whether it is buying a shrink-wrapped box or downloading a tar file, all software has to be obtained, configured, and installed (which we can lump together as "implementation"). How long it takes to implement the software and train users is a major cost consideration.

The cost is going to be measured in "man hours" (it takes time to obtain, configure, install the software, and train the users). Once again, ANY software implementation will have these associated costs.

Even a 100% "open source" implementation of "server side" applications that require no specific client installation or extensive staff training (e.g. running Linux/Apache/Drupal/MySQL for the company Intranet) still has a non-zero cost.

It is important to remember that what you have paid for a piece of software is not directly related to whether it is good or bad. "Ease of implementation" is a selling point for any software. The best software ("free" or not) is relatively painless to implement. "Bad" software will be discarded in the "testing phase," while "good" software reaps the benefits of multiple installations.

The "man hour" overhead factor makes it harder to justify an open source client-side application using the "it's free" argument. For example, Microsoft has the advantage of extensive training and certifications available for its products. If a company is looking at using Microsoft Office or OpenOffice the deciding factor may be decided by the "how easy is it to hire someone who knows how to use the product?" question. Yes, there are good training sources for OpenOffice, but there is no "MOUS" equivalent (or college courses for that matter).

Why use open source software?
The best reason for using any particular piece of software is that it will perform the job you need done. The cost of purchasing a piece of software (or client licenses) is not going to be a "deal breaker" for most companies. After all, a "free" solution that can't be counted on may end up costing more than the proprietary alternatives.

Most executives/managers will not be blatantly opposed to using open source, but will not be inordinately in favor either. The most important considerations are always going to be "will it work" and "what are the total costs."

While open source software may be philosophically attractive, businesses won't start implementing solutions until the software can pass the same cost/benefit analysis that all software must pass.