Throughout the 1990s, most large industrial companies installed enterprise resource-planning (ERP) systems—that is, massive computer applications allowing a business to manage all of its operations (finance, requirements planning, human resources, and order fulfillment) on the basis of a single, integrated set of corporate data. ERP promised huge improvements in efficiency—for example, shorter intervals between orders and payments, lower back-office staff requirements, reduced inventory, and improved customer service. Encouraged by these possibilities, businesses around the world invested some $300 billion in ERP during the decade.

What most attracted many a chief information officer was the opportunity to replace a tangle of complex, disparate, and obsolescent applications with a single Y2K-compliant system from a reputable and stable vendor; one major oil company, for example, managed to switch off 350 old systems when ERP went live. By entering customer and sales data in an ERP system, a manufacturer can generate the next cycle’s demand forecast, which in turn generates orders for raw materials, production schedules, timetables for shifts, and financial projections while keeping close track of inventory.

For many businesses, installing ERP was traumatic. Following long, painful, and expensive implementations, some companies had difficulty identifying any measurable benefits. Those companies that were able to point to them thought they could have been achieved without the help of the computer system. One chief information officer concluded that "80 percent of the benefit that we get from our ERP system comes from changes, such as inventory optimization, which we could have achieved without making the IT investment." Today, as the information technology spotlight shifts to electronic business, where "nimbleness" and "Web speed" are the buzzwords, monolithic ERP systems look more and more like cumbersome relics of an older IT world.

Yet companies shouldn’t bemoan the cost of their investment: the hard-won skills and capabilities they acquired during the ERP installation process will permit them to improve their ERP applications incrementally, and these improvements collectively add considerable value. ERP can also accommodate technologies that facilitate promising developments, such as electronic commerce and continuous-relationship marketing (CRM), that didn’t exist when ERP systems were first installed.

Back-door gains

"What we bought was sustainability," said one ERP director. "Many of the benefits that we are able to achieve today could not have been predicted at the time that we started work on ERP." In fact, in hindsight it appears that much of the value of these large systems lay in the infrastructure foundation they created for future growth based on information technology.

The first element of this foundation is common data. To make an ERP system work in an enterprise or business unit, everyone must agree to enter information using the same vocabulary and format. This discipline renders the data both transparent and easy to compare, exposing anomalies—for instance, the use of different exchange rates to calculate the financial results of different plants—that must be resolved.

Standardized business processes are the second part of the foundation. ERP demands standardization to reduce the number of process variants that must be supported. Painful changes in even the best local traditions may be needed so that orders can be fulfilled consistently throughout a business. When customers demand consistent global quality, globally consistent processes become essential. At least the new processes resulting from ERP are a consequence of design rather than evolution.

The third and last part of the foundation is an organization that has been built to change continually. The implementation of ERP gives many people their first experience of an IT project that truly changes the way a business works. Companies learn—sometimes the hard way—the need for business leadership of IT initiatives and for operating in project rather than line structures. The ability to execute such business initiatives is a valuable asset at a time when fast and flexible IT deployment has become a major success factor in almost all industries.

Ascending the value staircase

For companies that already have ERP systems in place, the key problem is translating this infrastructure into bottom-line value. Think of such companies as standing at the foot of a "staircase of value" (Exhibit 1). In most cases, the initial implementation will have generated IT cost savings and process efficiencies. Ascending the lower steps of the staircase requires many small adjustments that will cut IT costs and improve business processes further. Reaching the summit means placing applications that can support new initiatives such as e-commerce and CRM on top of ERP.

The bottom steps

At the beginning of the ascent, you have to revisit the business case for ERP—or develop one for the first time—to see where further efficiencies and savings can be realized. You must also introduce a continuous-improvement mindset, which may not be popular with employees. One implementation consultant compared installing ERP to running a marathon; few teams that have flogged themselves to complete the initial systems, reengineering, and change management work on time and on budget are keen to revisit the course.

Still, the push to deliver the original implementation punctually is likely to have left value on the table, and that value can be captured through incremental initiatives. The key to continued success is pushing responsibility for change outward by appointing a network of "initiative owners," from different functions and sites, who understand the ERP system. Their task should be to find the best ways to implement and sustain each of the improvements locally and to discover new opportunities for improvement.

Refining the system. One such initiative involves refining the ERP system’s technical and commercial operation in order to drive out costs. For example, service functions, such as accounts payable or IT operations, that are duplicated in different locations can be consolidated.

"Nice-to-have" features. Deadline pressures probably forced the original ERP implementation team to jettison inessential but useful functions. Look for add-ons, such as electronic-ordering and -payment systems, whose payback times could be very short.

Captured data. ERP systems capture reams of information on customers, suppliers, and internal processes. By analyzing all this, businesses can find opportunities to sell more or spend less. Information from a payment database, for example, may show that a company buys comparable products from a number of suppliers. Placing orders with just a few could win a substantial discount.

Extending uniformity. Sometimes the desire to optimize local operations exacts a global price. One manufacturer, finding that its different distribution processes interfered with its ability to manage its stock-control system in a number of European countries, unified the distribution process. "It was obvious in hindsight," a manager said, but employees "needed the experience to understand why we all had to do it the same way."

The top steps

With these initiatives in hand, you can start mounting the top steps, which build on the ERP infrastructure, to achieve competitive advantage. A range of technologies, many of which emerged after ERP began to be implemented, can extend and enhance the capabilities of the original system. The four examples given here by no means exhaust the possibilities.

Sell-side e-commerce. It is easy to build a World Wide Web site to advertise products and accept credit card numbers. But to become an industrial-strength, high-volume on-line retailer, a company must have world-class order fulfillment and distribution—one of the biggest challenges for electronic retailers. Whatever advantages nimble new on-line entrants may enjoy, there is tremendous value in having a system that can handle not only order fulfillment but also returns, partial shipments, and refunds. Internet commerce applications such as BroadVision, INTERSHOP, and InterWorld can build on existing ERP systems to offer customers high-quality service through the Internet channel.

Electronic procurement. On the buy side, attaching an e-procurement module to an ERP system can restrict purchases to preferred suppliers and cut out maverick spending by employees who have too little time to go through required procedures. Say an accountant needs a new computer. An e-procurement module allows that person to choose "computer supplies" from the procurement folder appearing on everyone’s desktop and to select the desired model from the company’s preferred supplier. If the price exceeds the limit, the order automatically circulates to all designated approvers, and once they sign off, it goes to the supplier for fulfillment. The clincher is that the ERP system also receives and pays the invoice electronically, cutting out liaison with the accounts organization. E-procurement specialists such as Ariba and Commerce One have developed such systems, as have established ERP systems vendors, including SAP and Oracle.

Continuous-relationship marketing. Electronic orders yield far more information about customers than over-the-counter sales do—not only who those customers are, but also what else they looked at and even, if you care to track this, how much time they spent on each screen. An add-on application can combine customer data obtained from e-commerce with information in the existing ERP system, helping you cater to individual tastes and create lifelong relationships with customers. Such tools—supplied, for example, by the specialists Siebel Systems and Vantive—and by the major ERP vendors, make it possible to track customer interactions across all sales channels.

Supply chain optimization. Suppose that a toy manufacturer must buy lots of plastic. Applications from companies like i2 Technologies and SAP can take production schedules generated by the manufacturer’s ERP system and compare them with information about current raw-materials costs. These applications can then automatically place orders with the supplier offering the best price in the right volume at the right time.

Roads to ERP

The vision of snapping leading-edge functions onto ERP like Lego bricks is seductive, but the reality is complex. Standard ERP systems use a single logical database shared by all ERP modules to provide a common view of an organization’s data. In the early ’90s, this was a farsighted way to overcome inconsistency and fragmentation; today it seems monolithic and inflexible.

But a number of technologies, collectively known as middleware, are eliminating the requirement that all ERP modules share the same database. Middleware allows application components to communicate through standardized messages, which simplify the coupling between systems. As a result, the integration of disparate applications becomes increasingly flexible and manageable; indeed, middleware can integrate applications running not only within but also beyond a company’s boundaries, so it is particularly useful in fast-moving environments where alliances, mergers, and acquisitions are routine.

Such technical advances mean that companies enhancing their old ERP systems or buying new ones will gradually come to feel less need to get all of the elements from a single vendor (see sidebar, "What next for the big vendors?"). Fast-changing businesses that use middleware to manage the integration of components are likely to choose different best-of-breed vendors for each of them (Exhibit 2).

But an organization that has already made a big commitment to a major ERP vendor should think hard before moving toward the best of breed. SAP, the ERP market leader, and Oracle, the number-two player, have consistently extended their product ranges to compete against emerging products in "hot" functional areas.

Companies that build on existing ERP systems can stick with their original vendors, an approach that lowers their exposure to risk but leaves them lagging, to a certain extent, behind the state of the art. Alternatively, they can use third-party products to extend their ERP systems, with the original vendors controlling the overall architecture. Or they can take the bull by the horns and combine products from a number of different vendors into a suite of heterogeneous applications linked by messaging middleware. Although the third approach frees a business from dependence on a single vendor, it is more expensive.

ERP systems may feel like an albatross to companies that have expensively and painfully installed them. Nonetheless, they constitute a valuable foundation for a wide range of new value-enhancing applications. And the emergence of middleware will give companies seeking distinctive solutions greater flexibility and choice.

What next for the big vendors?

Unlike the early 1990s, when the use of ERP systems increased explosively, 1999 was a slow year for vendors (Exhibit 3). Saturation of these companies’ core industrial-market sectors—consumer products, energy, manufacturing, and pharmaceuticals—as well as the reluctance of many of the companies to implement big systems before the start of the new millennium, put a crimp in sales. ERP vendors are now pursuing three major routes to renewed growth.

The first is expansion into service-sector industries. Although the major vendors compete in all of the main branches of business, they have much more experience in heavy industry than in services. Because it is hard to find much similarity between a manufacturer’s planning system and, say, that of a bank, expansion here may be difficult.

Expansion into new functional areas—such as sales-side electronic commerce, continuous- relationship marketing (CRM), and electronic procurement—is a second possible growth strategy for ERP vendors. Pursuing it would require them either to develop proprietary offerings or to acquire companies that have complementary products, much as the major vendor PeopleSoft did when it bought CRM specialist Vantive.

The third potential growth strategy is to address the needs of small to midsize businesses. The vendors could tackle this segment by serving as application service providers (ASPs), which offer companies (on a pay-per-use basis) ERP applications running on vendor-owned and vendor-maintained computer systems. Systems supplied by ASPs are particularly attractive to start-up companies that can’t reliably predict their future business volumes, can’t afford to pay for first-tier ERP systems, and don’t want to be continually replacing cheaper, less capable systems as their businesses grow.

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