Microsoft Online ServicesPartner Profit and Loss Case Study

Startup Anticipates 162 Percent Net Income Growth from Online Services and Consulting

OverviewCountry or Region: United StatesIndustry: IT Services

Partner ProfileWith offices in Kansas City and St. Louis, Valorem Consulting is positioning itself to be the go-to partner for small and mid-sized businesses interested in working from the cloud.

Business SituationValorem views cloud-based computing as the next frontier of business computing, so it wanted to be one of the first in its region to offer a cloud-based solution.

SolutionThe Business Productivity Online Suite from Microsoft Online Services has enabled Valorem to create a profitable and growing service around cloud-based messaging and collaboration services.

Projected Profit and Loss Impact Revenues derived from online services

are projected to climb by 154 percent CAGR for the next two years

Net profits derived from online services are projected to climb by 162 percent CAGR for next two years

“It’s a worthwhile strategic move because Valorem is becoming the go-to company in the region when businesses want to have discussions about cloud-based Microsoft solutions.”

Domnick Parretta, Managing Partner, Valorem Consulting

Domnick Parretta and Justin Jackson knew the business benefits of Microsoft messaging and collaboration tools, so when Microsoft Online Services announced the availability of the Business Productivity Online Suite they got together and ran the numbers to see if they thought they could create a business around the delivery of cloud-based services to businesses in the Kansas City and St. Louis areas. The numbers looked good, so together they formed Valorem Consulting. Part of the business is built around meeting the needs of clients with on-premises deployments of Microsoft® Office SharePoint® Server; part is built around supporting clients with Microsoft business intelligence solutions. All of it is built with the idea of supporting both new and existing clients move toward cloud-based solutions delivered by Microsoft Online Services.

Business FocusValorem Consulting exists, in part, because of the Business Productivity Online Suite from Microsoft Online Services. The firm’s managing partners, Domnick Parretta and Justin Jackson had been working with Microsoft Office SharePoint Server and the Microsoft business intelligence (BI) product suite for many years and knew the capabilities of these product sets. In their previous jobs, they had worked with small businesses and large enterprises, and they knew how organizations were using these services. They also heard companies asking whether some—or all—of these services could be delivered from the cloud, rather than from racks of on-premises infrastructure that they had to acquire and maintain themselves.

Parretta and Jackson knew that the answer to that question was often “yes,” particularly in light of the availability of the Business Productivity Online Suite from Microsoft Online Services. They knew the technologies underlying the Business Productivity Online Suite and they knew what those technologies could deliver to clients. The question was, could they build a profitable business model around the Business Productivity Online Suite and related services?

They ran the numbers and decided that the answer to that question was also “yes,” so in 2009 the two men formed Valorem Consulting. One portion of the business would build on their expertise in configuring and customizing Office SharePoint Server; another would continue to deliver BI tools and development; the third portion would extend both these areas of expertise into the cloud and focus

on helping organizations move more fully into cloud-based computing using both the Business Productivity Online Suite from Microsoft Online Services and the Windows Azure™ Platform.

Selling Online ServicesThe Business Productivity Online Suite from Microsoft Online Services enables Valorem to offer its clients access to a range of enterprise-class messaging and collaboration services —including shared workspaces, workflow, desktop and mobile e-mail, calendaring and contacts, instant messaging, presence, audio/video conferencing, and web conferencing. Yet because the applications supporting these services—including Microsoft SharePoint Online, Microsoft Exchange Online, Microsoft Office Live Meeting, and Microsoft Office Communications Online—run on servers residing in state-of-the-art Microsoft data centers, neither Valorem nor its clients need to invest in on-premises infrastructure to take advantage of these services. Indeed, Microsoft hosts and maintains the servers with its own staff of hardware and software experts, supplies patches and security updates in real time, and guarantees 99.9 percent uptime with a financially-backed service level agreement (SLA).

This cloud-based messaging and collaboration service offers still other advantages. Neither Valorem nor its clients need to purchase separate server or client licenses for infrastructure components such as Microsoft Office SharePoint Server or Microsoft Exchange Server. Instead, Valorem connects its clients to the applications they want to use on a per-user, per-month subscription basis. Small and

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Valorem Projected Three-year CAGR

Online Services-Related P & L CAGR (%)

Total Revenue +91.19Gross Profit +90.77Net Income +92.22

mid-sized organizations can provide their users with access to the entire Business Productivity Online Suite for one low monthly fee. If a user needs access to only one service—Microsoft Exchange Online, for example—it is possible to subscribe to a single service only for an even lower monthly fee.

Preparing to Go To MarketTo prepare for entry into the online services reseller market, Valorem followed a five-step process recommended by Microsoft. 1. Perform market segment analysis2. Define differentiating offerings 3. Prepare to generate demand4. Review and refine sales practices5. Review and refine customer services

offerings

For Valorem, this exercise helped Parretta and Jackson build solid processes to support an expanding business. The two already felt they had a good understanding of the needs of the large organizations in the region—they had been working with these companies for years and they anticipated continuing to work with them—but they did need to develop a better understanding about the needs and wish-lists associated with small and mid-sized organizations. One thing that became very clear to them as they did their research: small and mid-sized clients needed enterprise-class messaging and collaboration services as much as the large enterprise client did. The principle difference was that the small and mid-sized business needed the enterprise-class services at a small and mid-sized price point.

Accordingly, Parretta and Jackson developed a range of service and support options for different types of customer and priced and positioned these options accordingly. They developed e-mail and telemarketing campaigns to generate demand and they host a quarterly Lunch and Learn series in both Kansas City and St. Louis, where they can educate potential customers about the advantages of cloud-based computing and answer questions that arise.

“We do outside sales calls on large customers,” says Domnick Parretta, a managing partner at Valorem Consulting. “That can be a long process and the way we do it it’s very consultative. For small and mid-sized customers, we try to use inside sales and make the interactions as transactional as possible.”

Revenue and Margin GrowthFor Valorem and its clients, the Business Productivity Online Suite from Microsoft Online Services offers numerous benefits. It enables the company to offer its customers a low-cost, enterprise-class messaging and collaboration solution that they can choose to run entirely in the cloud or that they can integrate with existing in-house or hosted solutions. At the same time, the Business Productivity Online Suite creates ongoing opportunities for Valorem to add value through professional services, and this is projected to have a significant impact on the profitability of the company.

Increasing Growth and RevenueThe revenue streams associated with this new online business venture have two components. The Partner of Record (POR) fees paid by Microsoft represent one

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“With the Business Productivity Online Suite we have a competitive advantage that other companies don’t have. We can already see how tangible that advantage is.”

Domnick Parretta, Managing Partner, Valorem Consulting

component; the revenues arising from a partner’s value-added services are the other. Let’s look at the POR fees first.

The Microsoft Online Services partner program compensates partners for bringing clients onto the Business Productivity Online Suite. Every year, for the life of a client contract, Microsoft Online Services compensates its partners with a POR fee equal to six percent of the value of the contracts under management. In addition, Microsoft Online Services compensates its partners with fee equal to 12 percent of the value of new contracts it brings in during a given year. The net effect for partners is an 18 percent return on the value of new business during the first year of a customer contract and six percent per year each year after that.

Consider: If a partner such as Valorem signs up ten clients in January of 2010, each with an average of 25 users and at an average subscription rate of U.S. $10 per seat, per month, the value of those seats to Valorem, in terms of total first-year POR fees, would be U.S. $5,400. That includes the six percent recurring POR fee (U.S. $1,800) as well as the 12 percent first-year fee (U.S. $3,600). And these fees are compensation for doing

nothing more than signing up those 250 users during that first month.

If Valorem were to continue to sign up customers at a rate of 250 users per month, it would have signed up 3,000 users by the end of the year, earning a total of $64,800 in POR fees—just for signing up those users. Moreover, even if only 95 percent of those first year users were to continue to use the Business Productivity Online Suite beyond the first year, Valorem would receive U.S. $43,200 in POR fees in 2011 and 2012 for the customers it signed up in 2010.

If Valorem were to repeat its first year sales each year for three years, adding 250 users per month, by the end of the third year it would have signed up 9,000 users. It would receive a total of U.S. $129,600 in recurring (six percent) POR revenue as well as a total of U.S. $129,600 in first year (12 percent) POR revenues. In this scenario, the total value of POR fees to a partner such as Valorem accrues to U.S. $259,200 over three years.

A partner such as Valorem can also increase revenues by offering value-added services to customers. Some of these services will

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Sample Partner of Record Fee ScenarioActive Seats Year 1 Year 2 Year 3Cumulative New Seats 3,000 3,000 3,000

Cumulative Renewed Seats - 3,000 6,000Cumulative Seats 3,000 6,000 9,000Partner of Record Revenues (Accrual basis) Year 1 Year 2 Year 3 Initial-add (@ 12%) $43,200 $43,200 $43,200

Recurring (@ 6%) $21,600 $43,200 $64,800Total Partner of Record Revenues (per year) $64,800 $86,400 $108,000 Cumulative POR Revenues $64,800 $151,200 $259,200

“We’re able to get into customers that we would not have been able to call on if we had only on-premises solutions.”

Domnick Parretta, Managing Partner, Valorem Consulting

be one-time services—set up and migration services, for instance—whereas other services will be recurring services. They might involve SharePoint Online customization, help desk services, or other managed services that are offered for an annual fee. As we shall see below, the revenues from these services can be significantly higher than the revenues stemming from the POR fees.

Crunching the Numbers at ValoremHow realistic is the scenario just outlined? Let’s look at a more detailed profit and loss scenario based on the projections from Valorem.

In 2009, according to Managing Partner Parretta, Valorem signed between one and two Business Productivity Online Suite deals each month, but the average deal included 200 seats. The average distribution of subscriptions breaks out as follows:

Valorem Service Distribution

ServiceMonthly

Fee UsersExchange Online $5.00 40%

Office SharePoint Online $5.25 10%Office Communication Online

$2.00 0%

Office Live Meeting $4.50 0%Business Productivity Online Suite (Full)

$10.00 50%

For the purpose of a three-year profit and loss projection, Parretta assumes that the average subscription seat count per company grows at a rate of 20 percent per year—from 200 seats per company in year one to 288 seats per company in year three. Many will be much smaller, he

acknowledges, but several will also be much larger—so these numbers are averaged.

In parallel, Parretta expects to see the number of monthly sales increase over time. In year two of a three year projection, he expects to sign up three new customers per month—and in year three he expects that Valorem will be signing up five customers per month. Additionally, given the low cost and high value of the Business Productivity Online Suite, Parretta includes a churn factor of just five percent—and even that might be high, he acknowledges.

Using these figures, a three year profit and loss projection for Valorem shows slightly more than 29,900 seats under contract at the end of three years. It shows first year (12 percent) POR fees growing at a compounded annual growth rate (CAGR) 119 percent, and recurring (six percent) POR fees growing at a CAGR of 183 percent.

Increasing Profitability through Value Added ServicesAs noted, these numbers reflect the value of only one of the two Business Productivity Online Suite-related revenue streams. Parretta anticipates that 75 percent of customers signing up for a service that includes Microsoft Exchange Online (which could be customers signing up for Microsoft Exchange Online by itself or signing up for the full Business Productivity Online Suite) will require migration support services, for which Valorem charges an average of $45 per seat. Another 25 percent of customers signing up for a service that includes SharePoint Online (which could be SharePoint Online by itself

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“We view building a business around the Business Productivity Online Suite as a strategic move. We think online services are the way of the future.”

Domnick Parretta, Managing Partner, Valorem Consulting

or, again, the complete Business Productivity Online Suite) will also engage Valorem to provide migration and or set up services, at an average cost of $55 per seat. Finally, based on the experiences he has had to date, Parretta projects that subscribers will spend an average of $100 per seat per year on additional consulting and customization services from Valorem.

These fees add significantly to the revenues that Valorem gains from bringing a customer onboard the Business Productivity Online Suite. In its three year projection, the accrued value of revenues associated with its consulting and customization services grows at a CAGR of 183 percent—and for Valorem the accrued value of the revenues derived from these services is four times greater than the value of the accrued POR revenues.Factor in cost of service delivery, depreciation, amortization, taxes, and similar real world elements, and the three year profit and loss projection for the online services business at Valorem is extremely attractive.

Total revenue grows at a CAGR of 154 percent

Gross profit grows at a CAGR of 153 percent

Net income grows at a CAGR of 162 percent

Business Productivity Online Suite-related consultation and customization revenues grow at a CAGR of 183 percent

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“We view building a business around the Business Productivity Online Suite as a strategic move,” says Parretta. “We think online services are the way of the future. Even in the past 12 months I’ve seen huge steps forward in terms of business interest in—and adoption of—online solutions. As the 2010 series of Microsoft products move into the cloud, I think there’s going to be even greater adoption.

“From our perspective,” he continues, “it’s a worthwhile strategic move because Valorem is becoming the go-to company in the region when businesses want to have discussions about cloud-based Microsoft solutions. Already we’re able to get into

customers that we would not have been able to call on if we had only on-premises solutions. With the Business Productivity Online Suite we have a competitive advantage that other companies don’t have. We can already see how tangible that advantage is.”

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Valorem Three Year Profit and Loss Projections

As a Percentage of Revenue Actual

Year 1 Year 2 Year 3 CAGR

RevenuePartner of Record Fees 14% 13% 13% 142%Microsoft Exchange Online Migration Fees 28% 23% 21% 119%Microsoft SharePoint Online Migration Fees 11% 10% 9% 119%Other Consultation & Customization 46% 54% 58% 183%

Total Revenue 100% 100% 100% 154%

Cost of Service Delivery 34% 35% 35% 156%Gross Profit 66% 65% 65% 153%

Operating ExpensesSales 10% 10% 10% 154%Marketing 3% 3% 3% 154%General and Administrative 30% 30% 30% 154%

Total Operating Expenses 43% 43% 43% 154%

EBITDA 23% 22% 22% 151%Depreciation and Amortization 2% <1% <1% 0%

EBIT 20% 22% 22% 162%Interest, Taxes, Foreign Exchange 7% 8% 8% 162%

Net Income (Loss) 13% 14% 14% 162%

Microsoft Online ServicesMicrosoft Online Services are business-class communication and collaboration solutions delivered as a subscription service and hosted by Microsoft. These offerings help make it easier for customers to rapidly and cost-effectively access the most up-to-date technologies, and are designed for rapid deployment to provide customers with streamlined communications, simplified management, and business-class reliability and security features.

For IT staffers, Microsoft Online Services help reduce the burden of performing routine IT management tasks such as installation, provisioning, ongoing maintenance, updates, and upgrades, making it possible for them to spend more time on initiatives that move the business forward. The Online offerings are backed by strong service level agreements and are designed to meet the regulatory compliance and reliability needs of enterprise customers. On a technical level, the offerings boast the sophistication and reliability that customers expect from Microsoft, which continues to invest heavily in building data centers to support the online family of services.

For more information, visit: www.microsoft.com/online

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For More InformationFor more information about Microsoft products and services, call the Microsoft Sales Information Center at (800) 426-9400. In Canada, call the Microsoft Canada Information Centre at (877) 568-2495. Customers in the United States and Canada who are deaf or hard-of-hearing can reach Microsoft text telephone (TTY/TDD) services at (800) 892-5234. Outside the 50 United States and Canada, please contact your local Microsoft subsidiary. To access information using the World Wide Web, go to:www.microsoft.com

For more information about Valorem Consulting products and services, call (888) 660-5731 or visit the web site at: www.valoremconsulting.com

This case study is for informational purposes only. MICROSOFT MAKES NO WARRANTIES, EXPRESS OR IMPLIED, IN THIS SUMMARY.

Document published May 2010

Software and Services Microsoft Online Services− Microsoft Business Productivity

Online Suite