Reading Mark’s guest post led to Dave’s post on “Finding the right open-source price”.  Dave wrote:

“Customers expect open-source alternatives to be 10 percent to 20 percent of the cost of the proprietary product, which means that open-source companies need to be 80 percent to 90 percent more capital-efficient.”

What does 80-90% more capital efficient really mean?  Well, if it takes a commercial vendor $0.60 in expenses to drive $1.00 in revenue, then, an open source vendor must only spend $0.06 to $0.12 in expenses to drive the same $1.00 in revenue.

The argument is that commercial vendors spend on items such as advertising, marketing, R&D and most importantly, expensive direct sales representatives.  We’re told that open source vendors spend significantly less on these items, and hence can be more capital efficient.  These costs make up the difference between the costs of doing business as a commercial vendor vs. an open source vendor.

Somehow, those numbers didn’t seem right to me. So I looked at revenue results from Red Hat and Microsoft.  (I quickly looked at Oracle, IBM and Novell and found the same general trend as what I describe below.) See if you can guess which vendor’s results are in Table 1 vs. Table 2.

Revenue Results

Give up?  Table 1 contains Microsoft’s results and Table 2 contains Red Hat’s results.  Notice that Red Hat’s operating expenses (a good proxy for the cost of doing business) are over 85% of revenue.  Said differently, Red Hat needs to spend at least $0.85 for ever $1.00 in revenue it brings in.  This figure is just over $0.60 for Microsoft for every $1.00 in revenue.

Based on these data, I find it difficult to conclude that an open source vendor can truly be “more capital efficient” than a commercial vendor. Well, at least a mature open source vendor, which is what all start up open source vendors hope to become some day. This begs the question of whether open source vendors should compete largely on price (I remain convinced that the answer is no) if their proportional costs of doing business are not going to be significantly lower than that of a commercial vendor in the long run.