Frequently I see questions on LinkedIn procurement and contracts groups about negotiating Software Maintenance fees. Just like everything else that you need to purchase from a supplier after the initial purchase of the product, equipment, of software, the best time to control your future costs is prior to making the initial purchase. That is when you have the most leverage.
That is when you can negotiate the best total deal because the supplier knows that not only do they lose that sale if you don’t agree, they will also lose all the annuity revenue and profits that flow from that sale. As it’s hard to predict what costs may be five or ten years in the future one tool is to allow negotiations annually with any increase not to exceed an agreed inflation index. Inflation indices are published by many countries. In the United States there is the Consumer Price Index (CPI) and the Producer Price Indexes (PPI). Both are published by the department of labor.
The standard industry classification (SIC) code 737 - Computer Programming, Data Processing, and Other Computer Related Services would probably be better to use than CPI as it measures costs affecting companies in that business.
If you cannot get the licensor to agree to a cost index, there are two things I would want. First I would want to ensure that the license does not require you to purchase maintenance for it to remain intact. If you have that requirement you have two options and both are bad. If you think their price is exorbitant you can not renew the maintenance and then lose your use of the software and the investments you made in it and in using it. The second option is you may wind up paying whatever fees they want to charge. When you don’t have the requirement to purchase maintenance, each time the maintenance comes up for renewal you have leverage to negotiate the fee. If the software is extremely stable, you could proceed without buying it and that potential loss of revenue is the thing that gives you leverage.
What should the fee be? I’ve seen people suggest that it should be anywhere between 15 to 22 percent of the initial license fee. Those are potential rules of thumb and I’m not all that convinced that a percentage is the best answer. The simple fact is you are buying a service and when you buy a service the price you pay should be based upon the cost of the services plus reasonable contributions to their overhead and profit. When you use a percentage of the initial license fee that doesn’t take into account any changes to the licensor’s underlying cost base that have occurred since you licensed their product. For example if the licensor moved their support operations from a high labor cost area to a low labor cost area in the interim, all a percentage fee will do is provide them more profits while you probably get nothing better than before. If you were buying any other service, and you knew the suppliers costs went down, wouldn’t you expect your price to go down?
There is also a strong relationship between the warranty the licensor provides and the maintenance fee. When you purchase hardware, you can usually negotiate a warranty term of a year or longer. When companies want a short warranty period one of two things is happening. One reason is they feel the product would be reliable over an extended period and they don’t want to incur the cost of fixing it. The other reason is because the sooner the warranty period ends, the sooner you have to purchase maintenance. If you bought a license for a product and paid US$100,000.00 for that and the maintenance fee was fifteen percent or $US15,000.00. The difference between having a 12 month warranty and a 90 day warranty is your purchase just cost you US$11,250 more plus the value of money on that from having to pay the $11,250 nine months earlier. Based on that I would want to pay a smaller license fee to offset that additional cost of the term.
