Quotes of the Day

Sudden success can be more challenging than failure. In 2000, for example, the German soft pretzelmaker Brezelbäckerei Ditsch GmbH found itself growing faster than it had planned. The Mainz-based company's hottest product — a line of frozen oven-ready soft pretzels — fueled a growth spurt and Ditsch's managers knew they needed to overhaul their computers and software in order to cope with expansion. Ditsch's sales of baked goods to more than 160 bakeries across Germany grew from €40 million in 2000 to about €70 million in 2003. A committee was appointed to explore new software, and Michael Roche, a Briton who had only recently joined the company's three-member executive board, lobbed a simple question at the team. "Has anyone considered SAP?" he asked, referring to Germany's largest software firm. There was a long silence. Then someone replied: "Why? They just make software for big companies like Daimler."

Once upon a time, that was true. SAP, with a market capitalization of about €40 billion, became Europe's biggest software company by selling "enterprise software" — which automates internal processes like supply-chain management and financial reporting — to corporate mammoths such as U.S. aerospace-systems supplier Raytheon and European aerospace group Airbus. These days, however, it's not just pretzel companies that need SAP; SAP needs the pretzel companies. Having sold its wares to most of the world's largest businesses, SAP now believes it has to tap into the small- and midsized-business market to keep growing.

The small-business software market is estimated to be worth $10 billion a year worldwide, but SAP won't corner it without a fight from more consumer-oriented rivals like Microsoft and IBM. As if that competition weren't fierce enough, upstart companies like Salesforce.com, Sage Group plc and UpShot (acquired last year by SAP rival Siebel Systems) are grabbing a piece of the small-business market with products they hope will squeeze SAP out.

SAP has other ideas. "Sooner or later the entire midsized company segment will be as important to our business as the Fortune 500," says Leo Apotheker, the SAP board member in charge of global operations.

This is not the first time that SAP has had to reinvent itself. SAP was founded in 1972 by five IBM software developers, who offered their new program to the company. When Big Blue rejected them, they launched their own business based on the software program, which helps companies automate financial reporting and inventory management. Eventually, SAP perfected its signature product, with the distinctly unsexy name R/3. It was a huge hit in the '90s. The R/3 software racked up more than €10 billion in license sales in some 10 years, and turned SAP into the world's third-largest software company by 1998. Last year, SAP generated €7 billion in revenues and €1 billion in net income. Twelve million people use its software at some 70,000 installations across the planet.

But the ground shifted. Oracle capitalized on the growth of the Internet by making its products Web-compatible while SAP continued to use Net-unfriendly proprietary software. Oracle cashed in on SAP's mistakes, especially in the key U.S. market. The upshot: while the tech market was white hot, SAP's share of new enterprise-software license sales slipped from a commanding 58% in 1996 to 34% in 2000. "We used to sell R/3," Apotheker quips, "and that was enough."

The company fought back. In 2000, it began a massive campaign to get its 20,000 customers to switch to an Internet platform called MySAP.com. And it began churning out specialized applications for supply-chain and customer-relations management. By the fourth quarter of 2003, its share of new software licenses was back up to 56%, according to independent analysts. SAP expects software-license revenue to increase 10% this year to nearly €2.4 billion, largely driven by sales to small and medium-sized businesses. The strategy is simple: take SAP's basic product, strip it down to small-business size, and sell it for a lot less to companies like Steinberger High-Tech Products GmbH, a Vienna-based maker of networking products with 25 employees and €4.5 million in annual sales. About 18 months ago, Steinberger installed SAP's Business One package, a scaled-down system for small businesses. Steinberger owner Hubert Suchy says the installation cost him €30,000, was up and running in a week, and involved no outside consultants. "This is not the SAP that most people think of," he says.

But SAP is not alone: Microsoft also has its eye on small business. In 2002, Microsoft bought Navision, a Danish maker of small and medium-sized business management software, allowing Microsoft for the first time to challenge SAP in its core business. It is also developing a proprietary customer-relationship management product, and investing some $2 billion a year in services for small and medium-sized businesses. SAP continues to play down the competition with Microsoft. "Microsoft is a player in this market, by far not the largest. But we keep an eye on them," says Apotheker.

The battle is not merely between behemoths like Microsoft and SAP. Smaller, more fleet-footed creatures have entered the game. By far the fastest growing is Salesforce.com, a San Francisco-based firm founded in 1999 by a former Oracle executive. The company says it offers comparable services to SAP's or others', with a twist: there's no software to buy or maintain. Everything is done over the Web. Salesforce.com argues that software should be thought of as a commodity, like electricity, accessed over the Internet on a pay-as-you-go basis. "Software is dead," says Marc Benioff, founder and CEO of Salesforce.com. "These companies need to change and evolve. In 10 years they need to become utilities or die."

The talk is tough, but even those who appreciate what enterprise software does often agree that it is expensive and hard to use. The trend is clearly toward greater use of the Internet to deliver enterprise services. Even SAP cannot fight it. "At the end of the day, it's all based on Web services," concedes SAP CEO Henning Kagermann.

At least one thing is swinging SAP's way. Folks back at the Ditsch pretzel factories know that when it comes to software, size matters. "I know we're never going to grow out of SAP," says Roche. "Smaller suppliers may go out of business. That's not a risk with SAP." The pretzelmaker also offers a twist for SAP: small is beautiful.

• WILLIAM BOSTON | Berlin
• German software firm SAP sets out to woo the little guys