The Heavens Open. Divided markets and differentiated business models: How cloud computing is growing up

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1 Technology Thorsten Claus, Martin Jeske The Heavens Open Divided markets and differentiated business models: How cloud computing is growing up Lufthansa Magazine, Spiegel, Stern: the attention currently enjoyed by cloud computing in the media is comparable to that usually reserved for celebrities. Yet nothing is more urgently needed than a demystification because the value of services presently offered is just barely enough for a one-hit wonder. A divided market and debundled business models beyond fast and cheap are in the offing so that cloud computing will find broad acceptance in complex IT environments as well. 52 Detecon Management Report 2 / 2010

2 The Heavens Open T he power of the imagery is remarkable: the universal metaphor of the cloud, free of technocratic jargon, is inspiring the better popular magazines to elucidate a groundbreaking IT concept to their lifestyle-conscious readers. And while the experts have been struggling for months to come up with generally accepted definitions, sellers are exploiting the hype to market virtually any and every kind of product: cloud and social networks, cloud and brand management, cloud and hyperlocal content aggregation do you have an IT problem? You will find the solution in the cloud! Everything that can be said today with any degree of universal acceptance about cloud computing can be expressed in two concise statements. First: cloud computing is not a technology; it is a business model for the provision of IT services. And since greater precision regarding functionality of cloud computing services is not possible, the only hope for at least some clarity is offered by the three segments: infrastructure, platforms, and software. Second: cloud computing services are adequately characterized by billing based on usage and the performance on operating equipment used jointly by all users. So cloud computing is an evolutionary stage of application service provisioning and utility computing, but with better genetic material thanks to advanced technology. Virtualization, high network bandwidths, and Web applications bursting with functional power are the steroids which enable cloud computing to take the technological hurdles effortlessly. Is cloud computing nothing more than a lever to lower cost? Providers have seized upon a simplified description of the nature of cloud computing services pay as you go and shared resources to create a stereotype claim for benefits: cloud computing reduces costs and accelerates the provision of services. There can be no doubt that these characteristics are the embodiment of every IT director s goals. However, this narrow focus on cost and time advantages is also the greatest weakness. The larger a company and the more complex the application landscape, the lower the priority played by the advantages of fast and cheap in the overall picture. The cloud computing services offered today still do not have an answer to many of the challenges facing IT: 53 Detecon Management Report 2 / 2010

3 Technology How can the dependency on suppliers be eliminated? How can the complexity of the interfaces be reduced? How can IT prepare the way for new business ideas? How can the service quality of the applications be improved? How can the rate of innovation be accelerated? How precisely can capacities be planned? The questions raised above cannot be weighted by a uniform ranking because the IT strategy and orientation must be designed in accordance with the specific business requirements for every single company 1 / 2. However, an analysis of the cloud computing services being offered today leads to the conclusion that some of the issues are being influenced in the wrong direction. Just one example: an extensive use of applications as cloud computing services (software as a service, SaaS) increases the complexity of the interfaces. After all, the software systems being used here are highly standardized and permit only a loose, asynchronous coupling via the Internet. The utilization of an infrastructure cloud (infrastructure as a service, IaaS) is concomitant with an undesirable bond to the particular service provider as well as a step back in terms of the quality of service. The innovative strength of the IT is also put to the test when large companies attempt to amortize the high investments of a global cloud computing service by means of a closed architecture. So will cloud computing be denied the lucrative entry into the IT of corporations and companies? Indeed, will the lack of adaptability cause the business model as a whole to fail? Since the existing restrictions do not have their origin in the technologies, cloud computing will not suffer the same fate as application service provisioning or utility computing. Instead, there will be a process of differentiation which will break up the integrated cloud computing market of today and transform it in two orthogonal directions of development. Splitting into two markets: infrastructure utility versus software universe In the first line of evolution, providers will be pressured more and more to orient their services to either mass production or specialization. The as a service paradigm which momentarily 1 J. Henderson, N. Venkatraman: Strategic Alignment: Leveraging Information Technology for Transforming Organizations, IBM Systems Journal 32, P. Coleman, P., R. Papp: Strategic alignment: analysis of perspectives, Proceedings of the 2006 Southern Association for Information Systems Conference, 2006 acts as a bracket to hold together the undivided cloud computing market will no longer be able to withstand the opposing forces of scaling effects on the one side and diversification on the other. The result will be a rip tearing across the models for development, marketing, and sale of cloud computing services which will, for all practical purposes, establish two new markets: a provider market for IT infrastructure and a universal software market. The two markets referred to in the following as infrastructure utility and software universe, respectively can be characterized according to their dynamics (see Figure 1). The infrastructure utility market will undergo a major industrialization of system technology and standard middleware. The provision of services, administration, pricing, and billing on this market will be completely automated. Advantages of scale as competitive instruments will lead to a decline in prices and margins, precipitating a consolidation of the provider landscape. Providing service to small and midsize customers with special requirements, in contrast, will open wide the door to resellers without their own infrastructure. The infrastructure utility market is comparable with other utility markets such as energy or telecommunications, where the development described above has already taken place. The software universe market is subject to exactly the opposite laws. Applications and frameworks will diverge from one other, in the direction of industries and in the direction of technologies. As the modularization and combination of software components into new platform and application architectures proceeds apace, the number of alternative solutions for an IT system will grow. The consequence will be the establishment of integration and orchestration services as an independent business model analogous to the mashup concepts found in Web 2.0. This decoupling of value generation in combination with the trend to open interfaces will offer providers ranging from one-man companies to large corporations access to a global software market. Debundling of business models As if the splitting into two markets were not enough change, the cloud computing business models are evolving orthogonally. IT manufacturers and service providers on the still young cloud computing market have so far developed all of the links in the value chain themselves, but technical abstraction and falling interaction costs are now fueling segmentation. As providers con- 54 Detecon Management Report 2 / 2010

4 The Heavens Open centrate more and more on core competencies and processes, they will compensate for the reduced performance depth by concluding partnerships and cooperation agreements. The result will be that more and more market participants will work with debundled business models which can be classified in three layers: assets, services, and sales. In accordance with this classification, providers will be characterized in the following as asset companies, service companies, and sales companies. Asset companies are the production operations of IT. Their core competence is found in the operation of their own IT infrastructure, optimized for costs, or in the production of high-quality software products. Scaling, cost controls, and complexity management are the success factors for the asset companies. Since their fixed assets prohibit a radical change in business activities, their competitiveness is determined by the agility with which they can integrate changed customer requirements into the earnings model. Service companies offer services related to the preproducts of the asset companies. Operational and integration services, along with the finishing of components, are at the core of the business model. The success of a service company is measured by its innovative strength, the ideal timing of its services, and flexible reliance on the appropriate suppliers. Since service companies operate without being restrained by long-term investments, their competitive position is determined by short lead-in times up to the launch of their services ( time to market ). Sales companies represent the distribution channels for the services from the service companies. Account management and the industry or wide-area distribution of cloud computing services generate value. The strategic planning of the sales locations and the addressing of customers, the sustained care of customer relationships and loyalty, the increase in value of brands, and low-cost procurement determines the earnings of the sales companies. Although the above categorization appears to draw distinct lines, providers will continue to cover several or even all of these layers in their business model. Especially large companies which are already active on the market with cloud computing services will continue their vertically integrated value generation externally. Internally, however, a horizontalization will be observed during which product development, services, and sales will be located in decoupled business units. Differentiation will be the breakthrough The theses of separation and debundling of the cloud computing market may appear logical. But can they satisfy the demand stated at the beginning that cloud computing services, if they are to be successful on a broad scale, must offer additional value going beyond just fast and cheap? Let us take a look at cloud computing at the end of the development described above. Two markets have appeared, and three Figure 1: Cloud Computing will split into two Differentiated Markets PaaS SaaS IaaS Infrastructure Utility Industrialization of IT infrastructure and standard middleware Full automation of service provision, control, administration, and offsetting Decline in prices and margins from effects of scale Consolidation of providers, establishment of resellers Software Universe Differentiation of applications and frameworks Modularization of platform and application architectures Establishment of integration and orchestration platforms Broad range of providers from one-man operations to large corporations Source: Detecon 55 Detecon Management Report 2 / 2010

5 Technology debundled business models exist on each of them. Figure 2 gives these six segments a name defined by market dynamics and the performance depth of the business model. It is the concentration on core competencies which forces providers to design their services and products to be competitive as appropriate for the degree of freedom in each of the segments. On the industrialized infrastructure utility market, an asset company attempts to differentiate itself on the basis of the provided service quality, while a service company is able to dissolve the dependency of its customers on an infrastructure provider. A sales company focusing on distribution is concerned with its ability to cover its customers needs for equipment and capacity ideally. On the differentiated software universe market, in contrast, an asset company seeks to realize a high rate of innovations so that it can acquire a large number of users for its products. A service company reduces the complexity of the many interfaces between cloud-based application modules as an approach to convince potential customers of its value. The distribution of cloud-based applications, whether horizontally as an AppStore or vertically as a customization for an industry, is more or less open to every company that wants to expand its core business by adding ITbased services. It is obvious that these differentiation approaches do not fall in the categories fast and cheap. On the contrary, they answer exactly those questions which were identified at the beginning of the article as the shortcomings of current cloud computing services. Voilà, at the end of the day, the restructuring of market and business models generates the additional values necessary for broad acceptance. So here are the prospects for the future shape of cloud computing. The new cloud computing vision of the future or reality? When cloud computing becomes usable as a component of complex IT environments in companies, it will pose new questions for the people in charge of IT. During what time frame will the changes take place? How can the benefits of debundled services be realized? Current developments give the answers to these questions and an orientation aid about the time periods. The company Right- Scale 3 can be taken as an example of the changes which are occurring. The RightScale platform allows its users to initiate productive use and administration of applications across a number of different clouds. By relying on various cloud providers, RightScale supports the operation of IT systems on third-party infrastructures corresponding to a service company on the infrastructure utility market. Figure 2: Debundled Business Models generate Added Value Sales Greater precision in capacity planning Cloud Resource Broker Wholesale / Retail Channel, Cloud Resource Exchange Cloud Service Distributor Horizontal App Store, Vertical Market Sales Channel Preparing the wayfor business Services Elimination of provider dependency Lean Service Provider Infrastructure Aggregation, Value Added Operations Application Integrator Integration Platform Providing,Network Identity Repository Reduction of interface complexity Assets Rise in quality of service Infrastructure Factory Datacenter and Network Operations, Infrastructure Lifecycle Management, Hardware Manufacturing and Maintenance Software Developer Cloud-aware Application and Middleware Development Increase in pace of innovation Infrastructure Utility Software Universe Source: Detecon 56 Detecon Management Report 2 / 2010

6 The Heavens Open The Deutsche Post DHL has also adapted cloud computing as a complementary business model. The logistics corporation will in the future offer its business customers a CRM system as a cloud computing service 4 and position itself as a distribution channel in a limited industrial segment or, in other words, as a sales company on a software universe market. Similar to these two examples, companies are already positioning themselves today for all six of the future business models. The examples are at this time still isolated cases, to be evaluated in a wider sense as trends. But they strongly indicate that a change in the market, its business models, and the provider landscape is even today a genuine option and not just a vision of a far-off time. A highly promising scenario is being created for companies as users of IT services. In addition to the reduction of costs and provision times, the differentiation of the cloud computing market is opening up a new class of added value: from the unrestricted selection of the infrastructure to the outsourcing of complex data and application integration to the expansion of companies own value generation, cloud computing is proving to be multi-talented and is justifying the present euphoria microsoft_deutsche_post_crm_loesung.html Thorsten Claus is a telco2.0 enthusiast, angel investor and advisor, creating startups for cloud services and telecom enablers, and supporting community and public healthcare projects. As a Managing Consultant at Deutsche Telekom Group s technology and management consultancy Thorsten is helping his international telecom and Internet clients to engineer product and service innovations and to create strategies for a flat and free world. He has over thirteen years of telecom and information technology industry experience and was previously a senior network architect for T-Systems North America, responsible for creating blueprints and evaluating emerging technologies and architectures for telco-grade billing systems, next generation operation support systems, fixedmobile convered carrier infrastructures, and IPTV networks. He has a Masters Degree in Information Technology and a Bachelor in Business and Accounting and lives with his wife and two kids in Berkeley, CA. Thorsten.Claus@detecon.com Martin Jeske is Managing Consultant in the unit Strategy & Marketing at Detecon. His consulting activities focus on the development and realization of technology strategies and on ICT innovation management. He has had many years of professional experience in the IT industry where he has held various positions in consulting and marketing.martin Jeske holds a degree in engineering which he earned at the RWTH Aachen. Martin.Jeske@detecon.com 57 Detecon Management Report 2 / 2010