The cost and paradoxes of cloud

The cost and paradoxes of cloud

As costs of using hosted public cloud infrastructure “balloon”, renowned venture capital firm Andreessen Horowitz weighs up the necessity of repatriation.

Marc Andreessen (co-founder and general partner - Andreessen Horowitz)

Marc Andreessen (co-founder and general partner - Andreessen Horowitz)

Credit: JD Lasica

The world’s top 50 software vendors are losing as much as US$100 billion in market value by using hosted cloud infrastructure, devaluing what is seen to be the most efficient and margin-friendly model of operation for those in the software game. 

According to a lengthy report published by Silicon Valley venture capital (VC) powerhouse Andreessen Horowitz, the cloud bill for these companies reaches, on average, US$8 billion in aggregate, meaning repatriation from the public cloud may become more common to reduce cost. 

Ultimately, this leaves public cloud customers, whose costs have “taken over”, stuck in a paradox: “you’re crazy if you don’t start in the cloud; you’re crazy if you stay on it”.  

Written by Andreessen Horowitz partner Sarah Wang and general partner Martin Casado, the report, which featured interviews with cloud industry experts, claimed that repatriation drives a 50 per cent reduction in cloud spend, resulting in total savings of US$4 billion in recovered profit.  

“While US$4 billion of estimated net savings is staggering on its own, this number becomes even more eye-opening when translated to unlocked market capitalisation,” the report said. 

“Since all companies are conceptually valued as the present value of their future cash flows, realising these aggregate annual net savings results in market capitalisation creation well over than US$4 billion.” 

Credit: Andreessen Horowitz

As an example, Dropbox saved nearly US$75 million over two years by shifting most of their workloads from public cloud to “lower cost, custom-built infrastructure in co-location facilities”. 

Once moved to facilities it directly leased and operated, Dropbox gross margins increased from 33 per cent to 67 per cent from 2015 to 2017. 

In the report, the authors and the cloud experts came up with the “formula”: repatriation results in one-third to one-half the cost of running equivalent workloads in the cloud. 

In terms of the total cost of revenue (COR), the report claimed that contractually committed spend averaged 50 per cent of COR, making the case for repatriation more “meaningful”. 

As the VC firm’s analysis focused on the world’s top 50 software companies, the report also stressed that “for the broader universe of scale public software and consumer internet companies utilising cloud infrastructure, this number is likely much higher”. 

Meanwhile, Wang and Casado estimated that an additional US$4 billion of gross profit can be estimated to yield an additional US$100 billion of market capitalisation among these 50 companies alone. 

Credit: Andreessen Horowitz

However, the authors noted that the “rewriting” of a company’s architecture from public cloud to a more hybrid model can seem “so impracticable as to be impossible” and requires a strong infrastructure team in place. 

“We’re not making a case for repatriation one way or the other; rather, we’re pointing out that infrastructure spend should be a first-class metric,” the report said. “What do we mean by this? That companies need to optimise early, often, and sometimes, also outside the cloud. When you’re building a company at scale, there’s little room for religious dogma.” 

In a mark of “dramatic irony”, the authors also noted that the oligopoly of Amazon Web Services (AWS), Microsoft Azure and Google Cloud is unlikely to be dented. 

Given that the trio all run their own infrastructure, they are enabling ever greater reinvestment into product and talent while buoying their own share prices, according to the report.  

As such the oligopoly will continue to enjoy its 30 per cent margins and a combined US$3 trillion market capitalisation. 

However, for the rest of the industry, the VC firm outlined five steps to help customers mitigate the cost of ballooning cloud consumption. The first is to make cloud cost metrics sit alongside core performance and reliability in the early stages of a business. 

Other areas included incentivising engineers in the same manner as sales staff for saving a company costs in consumption, while also making incremental optimisation of infrastructure decisions a key focus. 

The fourth area includes making system architects aware of the potential for repatriation early on before cloud costs begin to outpace revenue. And finally, Wang and Casado argued, there is no reason for businesses not to incrementally repatriate parts of the businesses in a hybrid fashion. 

“And so, with hundreds of billions of dollars in the balance, this paradox will likely resolve one way or the other: either the public clouds will start to give up margin, or they’ll start to give up workloads,” the report concluded.  “Whatever the scenario, perhaps the largest opportunity in infrastructure right now is sitting somewhere between cloud hardware and the unoptimised code running on it.” 

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