The New Channel Model: Rise Of The Strategic Service Provider

Douglas Grosfield says the decision to sell the services provider business he put his blood, sweat and tears into over the past decade in order to start a new Strategic Service Provider business came not as an epiphany, but rather as a "death by a thousand cuts" reality.

The founder and onetime CEO of Xylotek Solutions, Cambridge, Ontario, honored numerous times for its fast growth, says he is energized and fired up to forge a new company, Five Nines IT Solutions, built from the ground up to drive strategic business outcomes for customers with recurring revenue cloud and managed services.

Grosfield sees the new business model as 10 times more profitable with fewer employees and a simpler, more reliable, scalable and predictable IT model for his customers. "If you are truly listening to your customers, you are hearing over and over again the challenges they are facing and the frustration they have with IT. There is a different answer needed today," said Grosfield. "The preponderance of evidence for me came to a point where I understood that something needed to change. The model is changing, and you better be changing with it."

[Related: 2015 Solution Provider 500]

Kitchener, Ontario-based Five Nines, launched last month, is an "opportunity to start over" with a focus on providing a complete end-to-end IT service for customers for a single monthly recurring fee, said Grosfield. "The goal for me is to provide everything a customer needs for one monthly fee," he said. "All the software, hardware, licensing and all the support; they don't have to worry about any of it. When that happens, IT becomes an enabler to the business rather than an inhibitor." That amounts to a holy grail of sorts for those picking up the Strategic Service Provider mantle.

But where there are great rewards for those that make that journey, there also is unprecedented turmoil. The new Strategic Service Provider dynamics have sparked record consolidation among solution providers in 2015—cemented further by blockbuster moves from legacy vendors like Hewlett-Packard and Symantec splitting their businesses in two; Dell moving to buy EMC in a $67 billion enterprise deal; and networking leader Cisco Systems acquiring companies at a feverish pace to become a bigger player in cloud services and security.

The pace of deals in the solution provider market has been just as frenetic. In the current quarter thus far, there have been 15 M&A deals—all aimed at giving those players a leg up in the race to become a Strategic Service Provider. Among the bigger deals in the quarter: Presidio, No. 21 on the CRN Solution Provider 500, buying Sequoia Worldwide and using it as the foundation for a new cloud business unit; PCM, No. 29 on the CRN SP500, acquiring Systemax's North American business-to-business assets—that deal done just weeks after PCM acquired MSP highflier Acrodex; SS&C Technologies Holdings, No. 38 on the CRN SP500, completing its fourth acquisition in less than six months with the purchase of Primatics Financial Holdings, a maker of cloud-based financial risk software; New Signature, the 2015 Microsoft United States Partner of the Year, acquiring InfraScience weeks after snapping up Canadian developer iMason; and Tyler Technologies, a provider of software and services to local government, acquiring New World Systems, a maker of public safety software.

New world indeed. The game-changing deals strike at the heart of the definition of a Strategic Service Provider: an independent trusted technology consultant driving business outcomes with an emphasis on cloud and managed services delivered via a recurring revenue model.

For solution providers, that means delivering anything and everything aimed at driving business gains from on-premise infrastructure to the full complement of IT services that make up business solutions. This new channel ecosystem includes communication service providers like Verizon and Comcast; application service providers like Microsoft and Salesforce. com; platform/infrastructure service providers like Hewlett Packard Enterprise, Dell and Amazon Web Services; and service aggregators such as distributors like Ingram Micro and master agents like Intelisys.

Robert Faletra, CEO of The Channel Company, which publishes CRN, said the evolution toward the Strategic Service Provider model marks the fourth major shift in channel nomenclature since the publication's founding in 1982. When the channel was born its constituents were known as Resellers, a business model CRN declared essentially dead in 1990 in favor of VARs (value-added resellers). VARs evolved into Solution Providers, a term that incorporates both Managed Service Providers (MSPs) and Cloud Service Providers (CSPs). And now CRN heralds the dawn of the Strategic Service Provider era.

Faletra said the new model is an "aspirational" evolution from the solution provider model that has dominated the landscape for the past two decades. But more importantly, the Strategic Service Provider paradigm shift is the most dramatic change yet in the channel landscape, providing great risk for partners but even greater rewards in a model where recurring revenue is king.

"The channel is once again moving higher up the IT ladder, this time establishing deep strategic ties throughout the organization starting with CEOs, CIOs, CSOs and CMOs running through each and every critical line of business," Faletra said. "This transformation is all about delivering strategic business gains for customers that are digitally transforming their businesses for the cloud era by integrating off-premise cloud services with on-premise infrastructure in a new hybrid cloud model. For solution providers, that is a far different role than they played delivering on-premise infrastructure with a focus on physical technology procurement."

The partners who will emerge as winners in the Strategic Service Provider era will have a high quotient of business consulting acumen and an uncanny ability to translate business knowledge into competitive advantage—a far cry from the generalist technology procurement specialist of the past.

Another hallmark of the Strategic Service Provider is its emphasis on recurring revenue from cloud and managed services. The new model is a big shift from the strictly on-premise physical IT infrastructure provider.

Just as critical as it was in the solution provider era is the role of partners to work in concert with IT vendors, teaming to provide business solutions with a full complement of presales and post-sales support, Faletra said. "The channel has prospered because of its role as a trusted adviser for customers making complex technology decisions," he said. "That trusted adviser role becomes even more compelling as solution providers become Strategic Service Providers, helping customers struggling to find the right journey to the cloud to digitally transform their businesses."

Rauline Ochs, a channel strategist for The Channel Company's IPED Channel Research Consulting & Training business, said the most critical factor in the transformation to Strategic Service Provider is "solving business problems" for customers.

"The No. 1 factor - the first dimension - is driving strategic value, which comes when a partner can solve business problems," she said. "That could be any kind of a business problem, from a company moving into a new line of business or losing market share. It is a business problem discussion."

Solution providers moving to the Strategic Service Provider model need to be pushing the number of strategic business engagements and amount of recurring revenue above the 50 percent mark, said Ochs. "Three years from now, those who are going to survive will be having more strategic business value conversations rather than procurement conversations," she said.

The power of the recurring revenue model was already proven during the 2009 economic collapse that resulted in many solution providers going out of business, said Ochs. "Many of the partners that survived did so because they started 2009 with recurring revenue on the books," she said.

Key to being successful in the midmarket enterprise, where some customers want to maintain mission-critical applications and data in-house, is being able to solve the business problem with either on-premise, off-premise, or through cloud services, depending on the customer business scenario, said Ochs. "It's all about solving customer business problems and selling it to the customer the way it makes sense for the customer to procure it," she said. "If it is best on-prem, then put it on-prem. If it is best as a managed service, sell it as a managed service. If it is best in the cloud, sell it as a cloud service." The Strategic Service Provider can do it all, she said.

A number of born-in-the-cloud providers, in fact, have moved to provide on-premise solutions because of the demand from customers to maintain mission-critical applications or data in-house. "In order to be that trusted adviser or sole source provider to your customer, you must meet customer needs," she said.

The danger is real for solution providers not making the move to the new model, said Ochs. "Those not making the transformation aggressively embracing business value will cease to be relevant to the customer because they can't represent all of the delivery models, and the companies that can represent all three delivery models [on-premise, off-premise and managed/cloud services] will go in for their installed base."

The Road To Strategic Service Provider Transformation

Xylotek was founded with a services focus that paved the way for dramatic growth in the solution provider era. The business had sales of more than $5 million with about 60 percent coming from transactional product sales and less than 10 percent of recurring revenue with the remaining 30 percent project-based engagements.

That 60 percent transactional product-based sales fi­gure strikes at the heart of why Gros­eld decided to start Five Nines. "That was an 'eat what you kill' kind of business as opposed to recurring revenue," Gros­eld said. "The reality in today's tech landscape is that it is a commodity business - an extremely low-margin business - going in at a cost-plus with less than ­ve points margin to be able to win business. That is a huge chunk of change that stifles cash flow. It's an expensive way to do business for a VAR. That's why we're seeing a lot of mergers and acquisitions. People's appetite for pushing the rock up the hill is waning. The vision for me is to get to as close to 100 percent recurring revenue as possible."

Of course, Gros­field understands that there will still be plenty of customers that do not want to jump to the recurring revenue model — at least at fi­rst.

Xylotek — on its own — will still do a healthy business with a model that includes transactional product sales as it moves to add more recurring revenue services.

Ron Dupler, CEO of GreenPages Technology Solutions, Kittery, Maine, No. 159 on the CRN SP500, has been leading the charge to recast the company into a comprehensive recurring cloud services provider for the past decade—even when some companies were questioning the value of cloud computing.

Dupler has successfully navigated every major shift from reseller to VAR to solution provider. But this one is different. "I call the other changes we have had to make in the solution provider community iterative, evolutionary steps forward," he said. "This is a big fundamental change in the way we play the game. You have to make some big bets and bold decisions." Dupler said the challenges to making the shift to the Strategic Service Provider model accelerated in 2015. He said the industry is in a sharp turn to the new model, and the risk is greater than it has ever been for companies. Some are sure to crash before they are able to make the transition, he said. "We are in the bank turn right now with everybody moving from the traditional model to the new Strategic Service Provider world," he said. "It is a very different world. It is characterized by services platforms and people that can architect, integrate and manage service platforms. That is a Strategic Service Provider."

At the center of the chaos are customers with legacy IT structures moving aggressively to new IT infrastructure so they themselves are not disrupted in the cloud era. "That is rippling down to the channel, forcing everybody to change the way they sell and the technical capabilities of channel organizations," said Dupler. "It is a race between the growth of the new revenue streams and decline of the traditional revenue streams. That's why the pace of M&A is so crazy. What is happening is companies are trying to buy the capabilities they need to successfully navigate forward or are bailing because they don't have the wherewithal to make the shift in their business to get to the other side to become a Strategic Service Provider."

GreenPages, for its part, has seen 50 percent growth in its recurring revenue Cloud Management as a Service (CMaaS) for the last two consecutive years and explosive growth with its Transformation Services Group. "One of the inertia points for customers is they don't have the tools and services to manage in a hybrid cloud world," he said. "We've got that, and we are very proud of that. We are seeing a tremendous appetite for companies like us that can step away from the fray and look at the big picture with customers as to where their IT strategy is today and where it needs to go in the future, and then build a road map for it. We are seeing a lot of appetite for that with our Transformation Services Group."

In addition to recurring revenue, the Strategic Service Provider shift is driving tight strategic alignment with customers for GreenPages. "It has gotten us engaged very strategically right at the forefront of our customers' IT strategies and operations," said Dupler. "We are addressing the technology, people and process aspects of the change that customers need to make." GreenPages is on the front lines with Fortune 1000 companies helping them rationalize the application portfolio and determining what their go-forward IT strategy will look like in the future. "This is about a world of services andservices platforms, how to extend out into the hybrid cloud securely, how to deploy software-defi­ned technologies, how to build a uni­ed hybrid cloud operating model and how to live and manage in that world," he said. "That is what customers are asking for today."

That ability to act as an independent, agnostic provider that can sift through con‑icting vendor claims and deliver highly repeatable and predictable time-to-value is paramount in the Strategic Service Provider era, said Dupler. "That role is more important than ever," he said. "There is more of a need for that today because things are changing so rapidly, and there are so many different options for customers to solve their problems or drive their IT initiatives."

The leading companies in the channel are "seizing the opportunity," transforming themselves to become that Strategic Service Provider for customers, said Dupler. At the same time, there is a whole new wave of channel businesses being started that are embracing the Strategic Service Provider model from the get-go. "The channel is adaptable," he said. "The channel is going to be around and adding value for many years to come."

Finding The Right Balance

One of the keys to success in the Strategic Service Provider era is fi­nding the right balance—the right mix of on-premise, off-premise and cloud computing services. By all accounts, hybrid computing is the dominant architecture for businesses for the foreseeable future. That means solution providers don't have to move to a 100 percent recurring revenue model immediately to be successful.

While some have struggled in 2015, Integration Partners, Lexington, Mass., No. 195 on the CRN SP500, expects its business to grow a whopping 40 percent this year based on its sharp focus of sticking to the fundamentals, namely helping customers solve business problems. "That's 99 percent of our business," said David Nahabedian, co-founder of Integration Partners, who was named an EY Entrepreneur of the Year fi­nalist in 2014.

That 40 percent sales growth came without a major cloud services business, but with 35 percent recurring revenue from its business solutions. Over the next three years, Nahabedian sees that recurring revenue growing to 50 percent of sales.

"We want a good mix," he said, noting that balance has been one of the secrets to the company's success. "We want a good mix of product-based solutions, a good mix of recurring revenue with our own services and then recurring revenue from selling other companies' services. We want to do all of those and have a good balance. We don't want to get too far down the road with any one of those models."

Key to making numerous shifts in the company's 16-year history has been adapting to the changes in the market at the right time, said Nahabedian. "The major changes don't happen that quickly," he said. "They never, ever do. There has never been one shift in technology that everyone migrates to at one time. There are always customers that have different needs with a difference pace. You can't put your head in the sand. The timing of when to get in is key, and when we get in we do it with value for our customers. We may miss out in some of the revenue up front, but I think we are better off in the long term. We watch the market and react when we think the timing is right."

The secret to success in the channel is being "‑exible and adaptable to provide what our customers are looking for," said Nahabedian.

Integration Partners is currently building out a comprehensive security managed services practice and a data center services practice with thought leadership around the two technology areas. It is that kind of steady, no-nonsense approach to the business that he sees continuing to drive the company's success in the future.

The Payoff: Competitive Advantage For Customers, More Profitable Model For Strategic Service Providers

Even though solution providers are taking different paths to the Strategic Service Provider model, one thing is clear: The new model completely transforms the customer experience. "It is going to take away the frustration that customers have with the old model," said Five Nines' Gros­eld, who expects a huge shift toward the new model over the next three years. "In the old model, IT developed a reputation as a cost center and an irritation that kept people from being able to focus on what they should be doing. For Five Nines going forward, we are helping customers achieve their business goals without them having to worry about the technology."

Gone are the product conversations about refreshing infrastructure or adding more computing power, said Grosfield. "Now it is about understanding the business challenge up front and then making technology address that in the background without the customer having to worry about it anymore," he said.

Besides being a better model for the customer, it is also a more pro­fitable model for the channel. IPED's Ochs, who was named a Channel Executive of the Year by The Channel Company in 2007 for her leadership of the Oracle channel, has seen firsthand the power of the recurring revenue model for partners. When Ochs left Oracle, she joined Safeco, the $6.3 billion insurance giant and recurring revenue powerhouse that sold its financial products through a network of some 9,000 agents.

The most successful insurance agents were golfing three days a week and retiring young because of the large amount of recurring revenue they had on the books, said Ochs.

"They started every January with 90 percent of what they needed to sell that year done. It was unbelievable," she said. "When I came back from the insurance business to the IT industry, I said, 'Solution providers must learn how to make this transformation so they can be more pro­fitable faster in the new world.'"

Grosfield gets it. He sees the power of the recurring revenue model for both customers and partners and is pumped up to build Five Nines into a Strategic Service Provider powerhouse. "I am hitting the ground running with a more exciting business model that is more pro­ table with a lower head count," he said. "It is achievable and should be the focus for companies that want to succeed."

Of course, the Strategic Service Provider model also packs a powerful profit punch, said Grosfield. "I want to go to heaven," he said. "But I want to stop at the bank a few times along the way."

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