Rackspace/Equinix Partnership A Win-Win Move

| About: Equinix, Inc. (EQIX)

On Monday, Rackspace (NYSE:RAX) reported Q3 numbers that exceeded analyst consensus.

Before its conference call, the company also announced Rackspace Cloud: Private Edition, an OpenStack-powered cloud backed by its managed services and operational support. The service targets customers looking to build medium-to-large scale private clouds, who can so rely on Rackspace's Reference Architecture and take advantage of the company's experience about the logical and physical architecture of a reproducible OpenStack deployment. The initial design is based on tested OpenStack configurations and hardware from Dell (NASDAQ:DELL) and Cisco (NASDAQ:CSCO), and obviously on Rackspace's Fanatical Support.

Interestingly enough, Rackspace offers three different possibilities when it comes to choosing the data center where the cloud could be deployed. The company operates nine facilities, located in the U.S., the UK and Hong Kong, where the customers can decide to host this service, but leaves the door open to letting Rackspace operate and run the cloud from the customers' own data center, or a partner facility like Equinix (NASDAQ:EQIX).

Back in March 2011 Dell, Equinix and Rackspace had announced their cooperation in developing an OpenStack cloud demonstration and test environment, with the first data centers chosen as demo environments being the Equinix IBXs in Silicon Valley, California, and Ashburn, Virginia (Washington DC metro), and the Rackspace data center in Chicago, Illinois.

More than 130 companies joined Rackspace Cloud Builders, and the company has worked closely with a dozen of them, including Ebay (NASDAQ:EBAY), to build and manage OpenStack clouds hosted in different data centers than Rackspace's own ones, so earning the experience that lead to the launch of the new product offering.

A few months later, the service moves beyond proof-of-concept and becomes a way to provide customers with the ability to progress into an OpenStack production environment capable of supporting their business needs globally, through Equinix's facilities across 38 key markets in 13 countries and 5 continents.

Here is an interesting comment from Rackspace's management made during the recent conference call:

James Breen - William Blair

Okay, thanks and just one follow up Equinix actually, especially saying that they're providing you Rackspace Cloud, the private edition services, can you talk about just that overall environment for infrastructure and how you guys are thinking about going forward in terms of leasing space or owning your own space and how the environment may have changed in the last couple of quarters, thanks.

A. Lanham Napier

Yeah, sure. Well, there is a couple of different nuances in your questionnaire. Let's start I guess, which is the infrastructure environment in general. Our intention consistent with the prepared remarks is that we will be leasing space, but the reason we want to do that is it just better aligns the timing of the expense with the investment with the revenue we have received that from a basically it turns into a variable nature instead of a fixed nature that is all up front for us. Nothing has changed in the market place to make us deviate from that plan that is core to our strategy going forward, if you look at the infrastructure expansion, we've had over the last call it year and a half, vast majority it has been within this recent model.

We believe it's very effective, we've been able to deliver great results to our customers in it specifically with what's happening with the Equinix, in our press release we are pretty excited about the Rackspace Cloud private edition, for us this is a first step for us to take Fanatical support outside of our data centers, which is consistent with our long-term vision of managing and running open stacked powered clouds anywhere, basically if a customer wants to deploy an environment just for themselves inside an Equinix data center, we want to be able to provide Fanatical Support for them.

So we see it real simply is that there are two primary layers in our business, the infrastructure layer and a service layer in this Rackspace cloud private edition based on the open stack technology, the customer would be purchasing the infrastructure, paying Equinix rent for that data center infrastructure, and then they would be paying us the service fee to manage it remotely on top of that infrastructure.

So this is a business model innovation for us, which has minimal capital involved in all of the profit margin of our service layer. So we like this innovation, we are just getting started with it, there will be a lot more work to do, but we believe this is a good solid first step.

At first sight, a win-win situation for all parties involved in this new service. Rackspace introduces a new offering, adding a new revenue stream (with good margins and requiring a low investment upfront) to its already very successful operations, while Equinix potentially leverages Rackspace's sales force and market leadership to land new customers for its network-neutral offering. Customers get the best of both companies and have the opportunity to deploy their cloud offerings all over the world receiving excellent support from Rackspace but also accessing Equinix's unparalleled network of locations - but may also look at Rackspace as a provider of know-how while keeping the cloud within their owned data center.

Our crystal ball, however, predicts that most companies interested in this new offering will probably opt for outsourcing their data center needs to Equinix and use Rackspace for what they do better, manage and support the service. "Clouds" usually perform better in a network-neutral environment, and Equinix's facilities offer a unique opportunity to be "just one cross connect away" from most networks and ISPs, and even partners or customers which may be already under the same roof. As Amazon (NASDAQ:AMZN) recently demonstrated with its AWS Direct Connect service, a cloud needs to be close to its targeted audience, and Equinix seems to be establishing itself as the place to be.

Disclosure: I am long EQIX.