At the end of February 2019, a civil court in Mexico City has ruled to freeze the Mexican bank accounts of the software company SAP. In total, 10 million dollars – or their equivalent in national currency, 190 million Pesos – were to be secured, for example through frozen checking accounts, payments, assets, transactions, securities, and bank deposits at securities administrations.
SAP’s principal banks complied with the ruling of the court, meaning that 20 million U.S. dollars are currently frozen in SAP’s bank accounts.
Why was this ruling necessary in the first place?
For some years now, SAP has been dealing with allegations of fraud. Under the case number 1205/1218, a civil court in Mexico City has admitted the case of the Spanish technology company Dominion Group, headquarters in Bilbao, at the end of November 2018.
It began in the early 2000s, before SAP failed to recognize the potential of the Internet. “During our lunch break, the telephone would start ringing and we knew exactly who it was: someone wanting to buy 2000 SAP licenses”, recounts a former SAP sales employee in a talk with E-3. “But we didn’t pick up. It wasn’t necessary. Business was flourishing, and we knew that the customer would call again anyway.”
It was then that the idea of OEM contracts took form. It works like this: A SAP partner as VAR (Value Added Reseller) or channel partner buys OEM licenses from SAP (Original Equipment Manufacturer). The SAP partner then adds value to it, e.g. in the form of an industry-specific solution, and sells it to the customer.
However, even between SAP and its partners, there is an uneven dependency ratio because of licensing, customer data (leads), and sponsoring. The buying and selling of OEM licenses was therefore not always in line with the market. That’s why SAP’s subsidiary Steeb or the German SAP partner T-Systems may have bought more licenses than they themselves thought necessary. For SAP, this was a valuable stream of income.
Information obtained by E-3 Magazine tells the story of how and why this practice was mostly discontinued. According to U.S. GAAP (United States Generally Accepted Accounting Principles), software licenses that are not actively used by customers should not contribute to the margin. Which could be the reason why SAP likes to present figures not related to GAAP.
However, the in Germany mostly discontinued practice was now apparently revived in Mexico. The Spanish technology company Dominion Group is accusing SAP of malicious deception and fraud.
What is this case about?
In 2012 and 2013, responsible SAP staff members apparently sold numerous OEM software licenses to its partners in the course of the partner program MCaas (Managed Cloud as a Service). The partners were supposed to sell them to Mexican user companies. SAP allegedly argued that the high quantity of licenses was necessary because of market studies, business strategies, and specific requests concerning the licenses, which were supposed to generate enough revenue to make up for what SAP partners had spent on licenses.
The Mexican subsidiary of the Spanish Dominion Group signed a contract with SAP based on these prerequisites. It bought OEM software licenses valued at 10 million U.S. dollars to sell them in the market landscape of the Mexican financial industry that SAP promised.
People familiar with the scene believe that this was a typical OEM business between SAP and a channel partner or VAR. What seems unlikely is the malicious deception that Dominion alleges, simply because its Mexican subsidiary and other SAP partners should have known their own market well enough to debunk or verify SAP’s market studies. Perhaps there were other factors at play, like an uneven dependency relationship, that prompted Dominion’s Mexican subsidiary to buy OEM licenses.
If the distributed licenses that most of the time did not reach customers at all and stayed with SAP partners contributed to SAP’s margin is uncertain. According to U.S. GAAP, they cannot be counted as sold licenses, but this practice is still sometimes used today.
For example, at the end of every year, SAP tries to get as many customers to buy licenses as possible. Sometimes, there are hefty discounts if customers buy before December 31st. If the licenses really end up with the customer by then is not that relevant. How many licenses contributed to SAP’s margin that never reached customers? One can only speculate. As mentioned before, this might be the reason that SAP likes to argue its case with figures not adhering to the U.S. GAAP.
What are the consequences for SAP partners?
The consequences of this innovative OEM licensing model are extensive. Also because of the revenue generated by these partnerships, SAP Mexico was at times sixth biggest subsidiary of SAP worldwide. The responsible management was granted senior positions in the global organization of the software company while its partners in Mexico were losing money with the software licenses.
To this day, Dominion’s subsidiary was only able to realize a fraction (less than one percent of the price they bought the licenses for) of what SAP had predicted it would make with its software licenses. Market studies from globally renowned consultancy companies are furthermore supposed to show that SAP’s own studies and predictions were erroneous in significant parts. Consequently, the potential for revenue and business that SAP predicted, which were the very reason SAP partners signed the contract, never even existed in the first place.
Dominion now argues that SAP had to know that its own studies and predictions were not even remotely correct. Consequently, it argues, SAP has intentionally deceived its partners.
On March 13th, 2016, the Spanish Dominion Group already wrote a letter to SAP’s management in Germany, telling them about the irregularities. This means that apparently, they knew about the situation. However, the E-3 Magazine does not know if CFO Luka Mucic reacted to the letter in any way.
Juanan Goni, spokesman of Dominion Group, describes the situation as follows, “As from 2014, we have contacted several people at SAP. From Dominion, our CEO, Mr. Mikel Barandiaran, our Chief Financial and Legal Officer, Mr. Mikel Uriarte, and our Director for the Digital Division of Dominion, Mr. Juan Antonio Goñi, were in contact with different interlocutors at SAP. Likewise, a communication to the Executive Board of SAP was sent in April 2016 informing them of the situation. We got no reply.”
The offer to talk was not successful, and a prosecution of the responsible management in Mexico wasn’t either. With the civil court admitting the case of Dominion Group, however, the company now wants compensation for the financial damage it sustained.
SAP normally likes to resolve such issues behind closed doors to preserve its public image. When asked why Dominion Group decided to go public with this case, Juanan Goni says, “In our opinion, that’s a question for SAP. We also thought this was an issue to be solved behind closed doors. We could not find the right interlocutor at SAP in spite of all the conversations with different people, all the communications and letters sent and the emails exchanged. Our initial belief is that the issue was not solved as it was a local problem in Mexico. But when communications were sent over to people at SAP with responsibilities at world level which exceeded the scope of Mexican territory, we realized that SAP had no intention to solve the problem.”
Dominion Group also does not discard the possibility of taking further steps against SAP in the U.S. and Germany.