Behind Software's Soft Quarter

A perfect storm of macro and micro economic factors disrupted software sales in June, forcing at least two dozen vendors to tell investors they would not meet quarterly financial targets.

Behind the ugly June swoon were dips in sales to key customer segments, forecasts based on incomplete information and ironically enough, the Sarbanes-Oxley Act, once seen as an important sales driver.

Companies that missed the mark included relatively small vendors such as FileNet (FILE Quote), as well as major players such as PeopleSoft(PSFT Quote), Veritas(VRTS Quote), Siebel Systems(SEBL Quote) and Computer Associates(CA Quote).

Perhaps most surprising was the rapidity with which the wheels seemed to come off software's cart. Veritas, for example, announced its major miss just three weeks after reaffirming a set of upbeat predictions.

The parade of warnings stunned Wall Street. "Although I have been covering the software space for just under 10 years as a senior analyst, last week by a long shot counts as the most surprising, disappointing and most filled with preannounced earnings misses that I can think of since I started my career on Wall Street," Lehman Brothers analyst Neil Herman wrote in a note to clients.

How could so many companies be so far off the mark? After nearly two weeks of hand wringing and head scratching by analysts and investors alike, it's becoming clear that factors affecting the software industry as a whole came together in what Rick Sherlund of Goldman Sachs called a "perfect storm." Most significantly:

Sales to customers in three key segments -- retail, telecommunications and financial services, which account for 21% of technology spending, Sherlund said -- dipped near the end of the quarter, when many software companies close most of their businesses.

Customers are now involving more high-level executives in major buying decisions, a fact of life that makes it harder for sales representatives to forecast when deals will close.

Many large companies are struggling to meet compliance deadlines for Sarbanes-Oxley, and that's sucking up major IT staff time as well as dollars. Among other things, the act requires management to explicitly take responsibility for establishing, maintaining and testing an adequate internal control structure. Moreover, businesses are reluctant to make significant changes to major software until they have documented and tested all major business processes, said analyst David Rudow of Piper Jaffray.

Making life all the harder for vendors is the apparently permanent expectation by customers that they'll get a major discount by haggling hard and waiting until the very end of the quarter to make purchases. "It's a buyers' market and they're addicted to the 50% plus discount rates they've been getting the last two years," said Erin Kinikin, a vice president of Forrester Research.