Avoiding the Cloud Computing Commoditization Death Spiral

For everyone in the U.S., Labor Day weekend represents the spiritual end of the summer. It is also a time when many of us sit back and take stock of our lives and the world around us as we prepare to re-enter the regular work routine.

The first thing to be said about the current state of our world is there is nothing routine about it. Obviously, the economy has had a major impact on the business environment and everyone’s psyches as well. But, even if we are fortunate enough to see an uptick in the financial climate as we approach the last quarter of the calendar year, I believe the rapid migration to cloud-based services will continue to accelerate and fundamentally transform the competitive landscape of almost every industry, including the public sector.

Although I remain a vehement proponent of the cloud computing and on-demand services movement, I also have growing concerns about the long-term impact of the commodization process which this trend is producing. As Tom Foremski blogged on ZDnet in June, the Internet devalues everything it touches.

I think this reverse alchemy is already having a detrimental effect on the SaaS and broader cloud computing market, either pushing down prices or putting an artificial cap on price levels. The price sensitivity of this market is due to three forces,

1. Customer perceptions of value are declining.
2. Technology advancements are reducing the operational costs.
3. The proliferation of players is creating greater price competition.

Given these realities, who will be most likely to sell the value of their solutions and avoid the death spiral of commodization in the cloud?

Here are a few candidates:

• Strategic vendors who offer end-to-end solutions or multi-dimensional portfolios. Customers will pay a premium price for the convenience of obtaining a set of solutions from a single source in an integrated fashion.
• Brand leaders who offer the promise of long-term financial viability and potential of a broader portfolio of solutions (organic or third-party) over time. Customers will gravitate toward proven vendors who are unlikely to disappear in an industry shakeout even if their solutions are not market leading.
• New Breed SIs/VARs who can cobble together cloud computing components or cater horizontal SaaS apps into industry-specific solutions. Appirio is the premiere player in the cloud-based systems integration arena. Veeva Systems (formerly, Verticals OnDemand) is a good example of a new breed VAR who has reconfigured salesforce.com’s CRM solution to satisfy the unique requirements of the pharma industry.

The strategic vendors and brand leaders may be one and the same. They may also be many of the legacy vendors who might have been late to the market but benefitted from their timing, tradition and being able to tap an existing customer base. What these companies have learned in many cases is how to make up for their technical deficiencies by offering stronger customer support capabilities. (You can read more of my views on this point in Ecommerce Times.)

While some traditional HW/SW vendors may be able to survive the on-demand services and cloud computing movement, I don’t think traditional SIs and VARs will be so lucky. They are too costly and cumbersome to succeed in an increasingly streamlined sector.

I hate to say this during Labor Weekend when we are celebrating the achievements of workers, but it is no secret and it is not news that the value and relevance of many workers is disappearing. This includes tech engineers, consultants and salespeople boasting old-world skills and high salaries.

Therefore, labor-intensive SIs and IT/business process outsourcers (BPOs) along with legacy system/software-centric VARs are at risk in today’s rapidly shifting world.

Ironically, more streamlined SIs and VARs who leverage a new generation of web-savvy workers may be in the most advantageous position to capitalize on the SaaS and cloud computing opportunity. This new breed of worker will not only have the right technical skills, but will also possess good analytic and people-skills to understand how to cater today’s cloud computing and SaaS capabilities to the specific business processes. But, in order to be effective, they will also have to be backed up by an efficient, cloud-based operating environment which also leverages the best attributes of SaaS…ubiquitous access, information-sharing, agility and scalability.

So, as the differentiation between various horizontal applications diminishes, it will be those SaaS and cloud computing companies which offer the most specialized skills and strongest customer support services that will attain a competitive advantage.

The baton has been passed to a new generation of workers and SIs/VARs with new skills and business models which can address a different set of technical complexities and deliver a new set of solutions in a more rapid and cost-effective fashion.

Unlike the cliche of the gold-rush era that those who sold the shovels got rich while the prospectors went home poor, in today’s ‘cloud-rush’ the tools vendors may not do as well as the tour-guides…the new SIs and VARs.

Comments

[Dialectical...:]

You're right that this is going to be an interesting process. The speed of change in many industries is accelerating. Cloud computing will further accelerate this trend. And yet Cloud Computing itself will also undergo rapid changes in the years ahead.

I am leery that "customer service" is supposed to be the moat that separates a company from its competition. Industries where this applies are cut throat and often boom-bust oriented (telecom for example). The changing landscape of companies in this kind of industry can make picking the right stock tricky (MCI anyone?).

My suspicion is that we haven't actually seen what the cloud will offer us. When we do it will seem like it should have been obvious all along and the company that is delivering what we need will take off.

New paradigms are often full of false starts. Two quick examples: Radio stations. When radio was young, buildings used to have their own radio stations on top of them ("Coming to you live from atop the Woolworth building"). Only later did folks realize that advertising on someone else's radio station was the model that had legs. The same thing applies to the Web. How many JonesFamily.com websites are there anymore now that social networking sites have matured? So when I look at a newish idea with promise (like cloud computing) I usually suspect the model we will be using in ten years is very different from what the early adopters are telling us it will be.

Sep 06 10:36 AM

[kevinapte123:]

I think that most Cloud providers are going to end up competing on price. So either there will be a massive consolidation, due to scale being an advantage. Alternatively, those who offer high value added services will have an edge. An interesting possibility is someone who will have technology that will dramatically lower costs.

Sep 06 11:30 AM

[Wisdom vs. ...:]

my perception is that M Kaplan is spot on. commoditization is nothing but people getting paid less for doing something that is no longer difficult; lower IT costs mean lower business expenses mean lower consumer prices and more total economic utility; disruptive but good.

computing already works great for most of us. the only way i am going to change my computing is if it gets cheaper; that is the promise of the cloud/SaaS-- more computing for the same or less money.

the business man's dream: i have nothing but a pipe to my business and i can access the software and storage i need, and get a predictable bill for the usage. no IT staff, no capital spending; to expand, all i need is a cable and a laptop (eventually, not even a cable). the bottlenecks are security and network speed, that is where i am investing.

Sep 06 01:01 PM

[ebworthen:]

If your thesis were true, cable television would be superior and cheaper compared to the old analog antenna T.V. of days gone by.

Any lessening of cost will be increased by subscription charges for access, software, virus and malware protection, and the correct "access equipment" (think digital cable boxes and DVR you pay X amount of dollars for per month).

I remember paying for cable and MTV and it was worth because there were not commercials, and then...

Look for the same trend with satellite radio; they will bring in advertising to "keep subscription costs down". Just look at PBS and the "sponsors" at the beginning of each program (besides the begging of the "fundraisers" and witholding any decent programs so they can interrupt it to beg for ca$h).

My Law of the Conservation of Everything states that nothing is made or destroyed, it simply changes form. The way you compute and do business my change, however, the costs will remain constant.

Sep 06 02:32 PM

[robertcgray:]

You are all looking backwards. Cloud computing will open up a vast world of new software and information "product" opportunities and the possibility of "workers" adding value and intellectual property to them. I am aware of a software startup being organized by post-corporate individuals that plans to "never-own-a-server" and at the same time provide a business model that provides opportunities for many people to provide content and value and get paid for it.

Three cheers for the cloud. It won't replace private data centers for a while, but over the long haul they will atrophy-and-die.

And interestingly, Mr. Kaplan seems to have missed the two major cloud players - Google and Amazon!

Sep 07 08:39 AM

[Govind Davi...:]

MCF Tech is one such "new breed" VAR and our experience is very much in line with your ideas. When we consistently replace pre-cloud technologies at fractions of the cost, sometimes as low as 5%-10% of our competitors for the same or greater value, it's clear that a completely new cost structure is emerging.

Our feeling is that capturing revenue has to shift from simply providing technology to providing technology value. Because technology is much less a barrier, the complexity of information and human collaboration problems solved has to increase and the value delivery needs to encompass both technical and organizational change.

Sep 07 09:00 AM

[glassshoe:]

Cloud computing is just a tool. Its how you use the tool that makes it more than a commodity.

There is also a space between the equipment builder and the SaaS provider in which an otherwise commoditized provider can rise up and overtly add to the performance of the SaaS provider and improve experience for the end user. Security, Virtualization, Reliability, Speed (both processing and end user delivery), Integration (just provide the shopping cart and banking services for small, specialized service providers), hand-holding, BC etc are all areas in which a cloud provider can keep price out of the conversation without inventing any new technology.

Sep 07 11:07 AM

[Fred Swartz:]

Cloud computing will inevitably increase with benefits/harm to many. BUT what really bothers me is that it may end up supplied by a few companies (Google and Amazon as mentioned before) with a very high level of risk. For example, just as there was a recent gmail.com outage, what would happen to how many companies if the large Amazon part of the cloud is rendered temporarily unavailable due to attacks/faults/...?

Sep 07 04:09 PM

[Spartacuss:]

First and foremost, who then is the 80/20 customer, one naturally assumes industry, and I beleive this self evident in that managers will be releived of the outdating phenom and it's related costs.

As to individuals, well, that is another story. People tend to get used to things and after they have fully immersed themselves into a way of doing things, then to make them change requires change, change that is that they can understand, unlike Obama's. The ipod and iphone are good examples of providing something that people want in that it brings new and exciting possibilites that weren't there before. Although there is this "upscale" aspect that figures in also; the current thing to have to have.

Cloud computing then has to provide some unique advantange and it is not just price, in fact if marketed properly we should expect "effective" price to be higher and certainly initially. So, there has to be a readily understandable and much needed feature. Supposedly, not having to "buy" but "rent" the software as needed has an appeal, but not big enough as the cost of softwares now are not all that prohibitive and updates for free in most cases is de jour.

In fact renting software has an obvious drawback in that producers will be less inclined to update unless they are forced to by circumstance.

So, not to wax on here, but I think cloud computing is going to prove a hard sell coupled with the enormous development costs....so, some kick-a-poo joy juice is required. I just wonder what that might be.

Sep 07 04:29 PM

[sango:]

Cloud computing seems like the next "hot stock" area, but my only concern is that there aren't any pure CC companies trading on the exchanges.

I know that Amazon, Cisco and EMC are just a few companies venturing into CC but they haven't shown it will drastically increase their profits or revenue.

Granted Salesforce.com is one of the few early CC companies out there. But it's been hit/miss with quarterly results.

Sep 07 10:48 PM

[Blair:]

I thought that I was reasonable well informed as to what is going on technically, but

What is Cloud computing?

Thanks

Sep 08 03:08 AM

[perremon:]

Oooo - ouch. Your comparison is severely flawed. As well as your supportive arguments, which have already been disproven. Cable was a vast mprovement - for one. Not an apples to apples comparison. Secondly, for business in particular, computing power and applications have become cheaper and cheaper. "Access equiptment" is the point. It is actually far less expensive than constant upgrades and expansion. Your "law" just doesn't hold water.

On Sep 06 02:32 PM ebworthen wrote:

> If your thesis were true, cable television would be superior and
> cheaper compared to the old analog antenna T.V. of days gone by.
>
>
> Any lessening of cost will be increased by subscription charges for
> access, software, virus and malware protection, and the correct "access
> equipment" (think digital cable boxes and DVR you pay X amount of
> dollars for per month).
>
> I remember paying for cable and MTV and it was worth because there
> were not commercials, and then...
>
> Look for the same trend with satellite radio; they will bring in
> advertising to "keep subscription costs down". Just look at PBS and
> the "sponsors" at the beginning of each program (besides the begging
> of the "fundraisers" and witholding any decent programs so they can
> interrupt it to beg for ca$h).
>
> My Law of the Conservation of Everything states that nothing is made
> or destroyed, it simply changes form. The way you compute and do
> business my change, however, the costs will remain constant.

Sep 08 10:43 AM

[rrtzmd:]

..."I think this reverse alchemy is already having a detrimental effect on the SaaS and broader cloud computing market, either pushing down prices or putting an artificial cap on price levels."????...I don't quite see your point...why would "pushing down prices" necessarily be detrimental?...one could argue that pushing down prices will make it more affordable and result in broader use...for example, computers and cell phones...commodization in those cases doesn't appear to have been all that "detrimental"....

Sep 08 10:50 AM

[change is t...:]

Rising unemployment. Declining housing market. Loss of confidence in the credit markets and securitization's ability to provide capital and generate reliable income streams. Businesses growing larger and larger in revenues and smaller and smaller in head count. Governments printing money and spending more tax revenues on social services. Cloud computing is a technological solution that may ultimately trump new market penetrations as a vehicle for corporate profits as reengineering technology will be an eaiser way to help the quarter to quarter corporate bottom line, as companies become... well....ghost ships. This new stage of computer adaptation is ultimately creating a technological black box only dreamed about a few years ago. Only a Barings Bank style collapse will halt this juggernaut of technology being used while those responsible for the bottom line don't have a clue why understanding the technology matters. As cloud computing usage rises, and its inevitable commoditization of the tools and service delivery it uses occurs..short everything except commodities. We will have reached a social, not a technological, tipping point.

Sep 08 07:43 PM

[MarkitWacha:]

As a software engineer with about 20 yrs. of experience, I can say that the concept is reasonable, but that there will always be a place for non-cloud applications within a business. The more diverse a company is, the less likely it can operate with all the restrictions of a cloud. Think about licenses, contractual obligations, site licenses, cpu licenses. It's a maze and a labyrinth of legalese. Cloud computing might work for small businesses or as dedicated services, but I have my doubts about larger companies, especially 95% of the ones I've worked for.

Perhaps when all engineering students are taught only how to make user interfaces using a website, THAT's when we'll be able to make the best of CC.

Sep 10 12:01 AM

[meridian575:]

Most cloud providers will price cost based on storage and data hosting prices they themselves have to fork over. Take a look at Yahoo finance, about the backside to cloud services:
finance.yahoo.com/news...

Sep 17 11:28 AM