Rackspace To Go It Alone, Focus On Managed Cloud
For the past four months, Rackspace Hosting, one of the main driving forces behind the OpenStack cloud controller and Open Compute open source hardware, has been entertaining a number of future paths for the company, including being acquired by an unknown number of potential suitors. Earlier this week, Rackspace named a new CEO and got back to focusing on its mission, which is providing managed cloud services for enterprise customers.
Back in May, Rackspace hired investment banker Morgan Stanley and long-time Silicon Valley consultancy Wilson Sonsini to take a look at a number of deals that unnamed companies have propositioned Rackspace with, ranging from partnerships to outright acquisition. Rackspace has seen decent growth in its most recent quarter and has tapped Taylor Rhodes, a seven-year Racker who used to run the company's European operations, to be its new CEO. And ahead of its Rackspace::Solve partner and customer event in New York today, the company just wanted to get all of that behind it and start focusing on the future, one that it has been talking about for years.
"We have ended that process," said John Engates, the CTO at Rackspace, during his opening keynote. "We are an independent company." And that is that. Well, unless someone really wants to acquire Rackspace, which got a little less expensive this week as the company's stock has dropped 18 percent as we go to press since the disclosure that Rackspace would not be sold and the company was going to go it alone. Still, such an acquisition seems unlikely, given that the company still has a market capitalization of $4.6 billion and would need to fetch a premium (probably on the order of the 20 percent Wall Street just had built into the Rackspace stock) to get done. In the trailing four quarters, Rackspace has been able to drive $1.66 billion in revenues, but it only brought $85 million, or a little more than 5 percent of sales, to the bottom line. This is cloud business is a tough one, and in many ways even tougher than plain vanilla hosting.
But this is what Rackspace does and what it is fanatical about, and if Wall Street wants it to make more money, it can look at retail giant Amazon and say the same thing. No one knows if Google and Microsoft are making money in the cloud, and it is very likely that if the costs were allocated fairly, they are not making very much on the cloud, per se, but are building out for the inevitable future when companies run more of their workloads in this manner.
The new tag line under the Rackspace logo this week is "#1 managed cloud company" and this shows precisely how the company intends to differentiate itself from Amazon Web Services, Microsoft Azure, Google Cloud Platform, and IBM SoftLayer – its four biggest competitors and companies that can bring a lot of money and IT smarts to bear. In his keynote, Engates said that all of the customers that Rackspace talks to are focused on speed, scale, and flexibility and they are less concerned with the costs of raw infrastructure. "Raw infrastructure doesn't manage itself," he said, and added that customers were looking for someone to do the managing for them and were willing to pay for this. Analysts from Forrester Research and 451 Research backed up this contention in separate presentations at the Rackspace::Solve event, and Engates flashed up a Magic Quadrant from Gartner that showed Rackspace out in front of the pack for something called "cloud-enabled managed hosting," a category that doesn't just fit the kind of cloud services offered by Rackspace but for a lot of the traditional hosting companies that have evolved into public or hybrid cloud providers.
Rackspace offers public cloud services that compete with AWS, GCE, Azure, and SoftLayer, of course, and these are not included in this particular Gartner study. (You can see the full report at this link.) The point is, Rackspace is going to try to differentiate with service on top of infrastructure as it has in hosting and also try to improve its margins by adopting OpenStack, Open Compute, and other open source technologies. But service means more than that. The company has built up specific practices and deep knowledge of the applications used in particular industries, and as an example Rackspace discussed its digital media practice, which it set up ten years ago. That practice has 9 of the top 10 digital agencies hosting their campaigns on Rackspace iron, and has deep experience with the Sitecore and Adobe advertising management applications and the Oracle Retail, Hybris, and Magento e-commerce applications commonly used for media campaigns.
Rackspace bragged that it probably has more e-commerce customers in general running on its cloud than any other cloud provider in the world. One customer who talked briefly about their custom ecommerce and marketing systems was sports clothing maker Under Armour, which started out with a "server with a coffee cup on it" a few years back and which now has over 200 servers managed by Rackspace running the $3 billion public company. This is perhaps the low-end of extreme scale IT, until you look at the infrastructure it takes to manage marketing campaigns after Super Bowl ads run. Sometimes these company look like large enterprises and sometimes they look like hyperscale companies. By offloading to a cloud provider, they don't have to lay down the capital for the hyper moments and have it be fallow during the normal enterprise moments. This is the future of cloud for Rackspace and its competitors, and the genius of clouds is that it allows for companies to interleave their peaks and valleys with others. No matter what, with hundreds of thousands of customers with dozens to hundreds of workloads each, Rackspace for sure is a hyperscale player, and one that has wrestled with issues about workload variation that Google and Microsoft are only beginning to understand.
Rackspace has demonstrated that it is not interested in getting into an infrastructure cloud pricing war with Google and Microsoft, and that is because maybe cloud infrastructure ends up costing less than doing it inhouse, and maybe it doesn't. Michelle Bailey, an analyst at 451 Research, cited survey data from 1,814 customers who use a variety of different cloud services – software as a service, public cloud, hosted private cloud, and traditional hosting – and it showed that 20 percent of customers already pay a premium for customer support and 55 percent are willing to. The premiums range from 25 to 30 percent of the cost of underlying infrastructure services, which is in fact a little bit higher than the rates that software makers command for software support, which tends to be in the 20 to 25 percent range.
The 451 Research survey showed that increasing revenue was the dominant reason for moving to the cloud, with some variation by company size, and speeding time to market and improving product or service was also important:
"It tells us that customers are going to the cloud because they want to grow their businesses, not to cut costs," said Bailey, adding that in some cases, cloud services are more expensive than internal IT operations. This jibes with the consensus of many IT shops, who believe they can support applications for a lot less than what AWS, Azure, GCE, or Rackspace charge.
Another interesting bit of the 451 research study of cloud usage is that public clouds are used for applications that interface with customers and partners, not so much for managing internal business operations and employees.
The other big theme at the Rackspace::Solve event was that cloud is moving from the exploration phase and into the rationalization phase, as Forrester analyst James Staten put it in his presentation. It is also moving from growth to hypergrowth, which means the revenue for cloud is about to get a whole lot larger. The first factor plays in the favor of Rackspace in particular, and the second will raise Rackspace and its peers like all boats at high tide. Forrester is in fact projecting that global public cloud revenues will rise from $72 billion in 2014 to $191 billion in 2020. About a third of that will be for infrastructure and platform cloud services added to other business services such as generic storage and file services and integration services that run on the cloud. The other two thirds will be for cloud-based applications.
During the exploration phase of any new technology, explained Staten, there is intense technological competition among the players and both early adopters and technology providers search for a dominant approach to this technology. When a technology comes into the rationalization phase, the technology orientation is mostly set, there is a factor of 10X jump in the number of companies deploying the technology, and the competition is mostly on the service value rather than the raw technology. During the optimization phase of a new technology, the competition shifts to price/performance as the technology commoditizes.
During the shift from exploration to rationalization, Staten said that the internal IT operations of organizations would stop fighting against the cloud and work to become a broker for cloud services of all kinds, ranging from infrastructure to platform to SaaS and including public, private, and hybrid as well.
"There is a big role for IT operations to fill if they have the right expertise, and if they don't have the expertise, then they have to supplement," Staten said.
This is precisely what Rackspace thinks will happen as it doubles down as a managed cloud provider and focuses on building raw infrastructure and platform cloud functions and ramping up the handholding it gives to enterprises. It is that extra level of service that Rackspace believes makes it unique in the market. It is a fair argument when comparing Rackspace to the public clouds from Google or Microsoft, and in the long run, IBM and its SoftLayer cloud might be the biggest threat to Rackspace and its corporate aspirations. Big Blue has thousands and thousands of consultants with deep industry, outsourcing, and systems integration experience and as outsourcing and systems integration wane a bit as cloud takes off, it is a fair bet that IBM will redeploy these experts on the SoftLayer cloud, providing similar handholding.
When EnterpriseTech brought this up to Engates, he replied that "IBM is still IBM" and that it was a large company with lots of overhead that was used to selling to the largest enterprises in the world in a certain way. "We continue to believe there will be plenty of business to go around," Engates added.