As businesses continually gain more experience with public cloud services, the long-term economic impact of the technology is coming into focus. In 2021, a widely read estimate from venture capital company Andreessen Horowitz suggested that for companies operating at scale, the cost of using public cloud is conservatively two to three times as much as maintaining private infrastructure.
Cloud costs might outpace private infrastructure by more, depending on the business, according to Tim McCallum, Director of Business Value Programs and Strategy at Nutanix.
“I’ve had some customers tell me the cloud is six times more expensive,” McCallum said.
The venture firm’s piece stirred lots of conversation and ultimately gave credence to having a “smart cloud” strategy, where cloud usage is analyzed to create a personalized approach that best fits a company’s needs and most optimizes its costs. Cloud economics has undergone a fundamental transformation. In particular, the emergence of multicloud, hybrid cloud and hyperconverged infrastructure promises more cost-saving potential for businesses following this “smart cloud” formula.
Many companies that embraced the digital transformation by diving headlong into public cloud services are experiencing a rude awakening, according to analyst Mike Feibus.
“The hangover from that overreach has been well documented,” Feibus wrote in a 2021 opinion piece for CIO.com.
One such document by Andreessen Horowitz General Partner, Martin Casado, and Partner Sarah Wang shows how cloud services expenses can severely impact a company’s market cap. “Excess cost weighs heavily on market cap by driving lower profit margins,” the article authors wrote in their highly circulated and talked about article, “The Cost of Cloud, a Trillion-Dollar Paradox.”
They based their analysis on 50 public software as a service (SaaS) companies but noted that the calculations could be extended more broadly to include all public companies operating at scale.
“When you're spending so much more on the cost of revenue or cost of goods, it reduces your free cash flow,” said McCallum. “That makes you less profitable from a cash perspective and the company less valuable.”
Does Cloud Computing Reduce ROI?
Cloud computing makes nearly unlimited, cutting-edge IT resources immediately available, minus the time-consuming and costly process of evaluating and buying equipment, then testing, deploying and managing it on-site. The cloud allows businesses to pay for what they use, rather than having to amortize infrastructure capital costs over time.
Experts agree that these cloud benefits remain intact and welcome early in an enterprise’s or application’s lifecycle. The cloud can even make starting a business feasible when it otherwise wouldn’t be.
However, while the rent-not-buy approach makes procuring any big-ticket asset – whether it’s data infrastructure, a home, a vehicle or something else – faster, easier and more affordable at the front end, the consumer invariably pays a premium over time.
In fact, “Trillion-Dollar Paradox” co-author Casado told Nutanix CEO Rajiv Ramaswami in a .NEXT Conference 2021 interview that an eye-popping 50% of the cost of goods (COGS) in the companies he researched was attributable to cloud.
“That’s an enormous number that greatly, greatly suppresses the share price unless you’re able to drop it,” he said.
Casado to Ramaswami that everyone is just starting to understand the implications of cloud.
“We know the benefits and agility, but we're just starting to understand the economic implications,” he said. “And it turns out for some companies, actually, this is fairly significant. And so we're entering an era now and I would view this as almost like cloud V2, understanding where there's a lot of discussion around: what is the right architecture for cloud, what is the right cost for cloud and how should I use cloud in the correct ways? This is where we are with the cloud adoption cycle.”
Andreessen Horowitz estimated that the top 50 public software companies currently utilizing cloud infrastructure are collectively losing $100 to $200 billion of market value due to the cloud’s impact on their margins relative to running infrastructure themselves. When the company extends its analysis to include the broader universe of public companies, those losses grow to more than $500 billion.
Companies are Moving In and Out of the Cloud
The real-world cost implications of cloud usage have caused mass repatriation of applications from the cloud back to on-premises infrastructure over the past few years. According to Barclays CIO Survey, 83% of organizations said they were repatriating workloads from cloud environments.
The Andreessen Horowitz research indicates that “repatriation results in one-third to one-half the cost of running equivalent workloads in the cloud” and that “for every dollar of gross profit saved, market caps rise on average 24 to 25 times the net cost savings from cloud repatriation.”
Dropbox, for example, famously embarked on an infrastructure optimization initiative and reported savings of nearly $75 million over two years by shifting the majority of its workloads from public cloud to custom-built infrastructure in collocation facilities that it operates itself. From there, the company reported a gross margin increase from 33% to 67% in a two-year period.
The trick is getting off the public cloud platform when its economic benefit starts to wane. Achieving this without planning is difficult because enterprise software code is usually tightly integrated with a cloud platform's code to enable taking full advantage of that cloud’s unique capabilities, a situation that results in vendor lock-in.
“Because this [cloud economic] shift happens later in a company’s life, it is difficult to reverse as it’s a result of years of development focused on new features, and not infrastructure optimization,” the Andreessen Horowitz authors wrote. “Hence a rewrite or the significant restructuring needed to dramatically improve efficiency can take years, and is often considered a non-starter.
Continual Optimization is Required
The lesson is that businesses need to be continually optimizing their workloads to run in just the right infrastructure and service tier at all times.
“We’re entering an era of Cloud V.2, where we’re asking, ‘What is the right architecture? How can I use the cloud in the right ways?” Andreessen Horowitz’s Casado said during the .NEXT Conference interview.
McCallum said those questions must be asked and answered.
“That necessitates building a decision framework of criteria that defines the conditions under which a given cloud service is used and conditions under which the workload(s) should be moved elsewhere.”
He said preparing for optimization in this way means “thinking about your exit strategy even on your way in” to using cloud services, which can seem counterintuitive.
Some deployment models have undergone a meteoric rise since cloud economics have become a growing concern for those in the industry.
Multicloud can be one critical piece of the puzzle for corporations concerned about their bottom line. Multicloud is when a business uses cloud services, either public, private or both, from a variety of providers. When a company isn’t locked into one single provider, they can comparison shop and find the most affordable option for their specific requirements. While multicloud could make an IT team’s job more complicated, there are multicloud management tools that allow professionals to oversee their workloads across different cloud environments.
Hybrid cloud is yet another important tool to help minimize cloud costs. Hybrid cloud is when a company uses both public and private cloud architecture, allowing for the greatest flexibility possible. In fact, Nutanix’s Cloud Usage Report found that over 80% of organizations believe that hybrid IT environments are most advantageous for managing applications and data. Similar to multicloud, hybrid cloud empowers the IT team to run workloads wherever they are most cost-effective, while still ensuring scalability and data governance. For instance, most workloads could run on a public cloud, which requires no upfront investment and less overhead, but more sensitive data might stay in the private cloud.
“For enterprises with a variety of workloads, having the versatility to move or load-balance workloads across public and private clouds provides flexibility to support scale, improve system performance, and enable cost efficiencies,” said Isaac Sacolick, president of StarCIO.
Hyperconverged infrastructure (HCI) is a software-based approach that combines everything from compute power to storage into one single system. Because HCI utilizes mass-produced and easily available hardware, it can help price conscious companies. The software also ensures that businesses use less hardware overall, creating additional savings on electricity and cooling costs. For that reason, it is expected that HCI will see the most growth of any deployment model over the next few years, according to Nutanix’s Cloud Usage Report.
Both younger and legacy companies should look to these trends as not only an opportunity to optimize costs, but to best position themselves for greater flexibility in the future.
A real-world analysis of Nutanix customers’ cloud usage trends revealed that eliminating old and unused VMs or VM snapshots, rightsizing underused VMs and rightsizing underused databases, could help them reduce their cloud spend by 15% or more.
Beyond these technological solutions, there are other ways to optimize costs as well. For example, Microsoft Azure’s issuance of credits to corporate customers based on their Microsoft product spend levels might influence a “smart cloud” strategy.
“A company may want to set itself up today to use AWS for certain functionality with the ability to use available Microsoft credits in mind,” said McCallum.
“They’d need to plan for the ability to slide from AWS to Azure to use those credits, which could potentially equate to huge savings. But later, when they’ve used up their Azure credits, they may want to move somewhere else” and have to be positioned for it.
For these reasons, mobility across the data plane is important, but it means companies need a decision matrix for what they run in the various clouds and how often they’ll move, “so movements don’t become the cost,” said McCallum. “We don’t want to pay an army to move apps then pay the same army to move them back.”
These issues boil down to an organization’s culture and how it makes decisions, he said. Companies can choose to use cloud management tools to enforce the policies and decision criteria they create – such as Nutanix Beam for cost optimization and Nutanix Calm for application optimization.
“But those tools can’t create the criteria for them,” McCallum said. “Businesses have to do that work themselves.”
Technical Assistance
Newer development and management tools can also have a big impact on preparing businesses for cloud changes by providing an abstraction layer between apps and the underlying cloud platform, said Sahil M Bansal, Senior Product Marketing Manager at Nutanix.
“If you don’t have an abstraction layer, it becomes really challenging to exit one cloud for another,” he said.
That problem is the primary one that the Nutanix Cloud Platform, which runs the Acropolis Operating System (AOS), attempts to solve, he said. AOS once ran in data centers only, but now provides a common platform that spans private data centers, private clouds and AWS and Azure (in preview) public clouds, allowing seamless workload movement among the dissimilar environments.
In addition, through a recent development agreement with Red Hat, businesses can also build containerized applications on the AOS platform so they “no longer have to worry if an app has to move to another environment,” Bansal said. “Apps can move to any supported platform.”
Moving Forward
Andreessen Horowitz’s Casado said the industry is “in the early days of cloud and just starting to understand its economic implications.
“Cloud isn’t a location or a company,” he said. “It’s an operating model.” One that can be deployed on-premises in a private data center, in a collocation facility, or as a service over the public Internet.
“What’s important is having optionality in how you consume it. The right way to do that upfront is [to deploy] multicloud,” which lets enterprises continually match workloads to the infrastructure best optimized to run them.
Multicloud, hybrid cloud and HCI are not only expanding the opportunity for cost savings, but they’re transforming cloud-computing and the world of IT for every company that relies on this technology’s immense power and potential.
Learn how Nutanix software NC2 can help move apps to and from the cloud fast by eliminating the need for workload refactoring with our unified platform.
Follow industry insights from Andreessen Horowitz Partners Sarah Wang and Martin Casado on Twitter at @sarahdingwang and @martin_casado.
This is an updated version of the original article published November 12, 2021.
Joanie Wexler is a contributing writer and editor with more than 25 years of experience covering the business implications of IT and computer networking technologies.
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