Pennies in the Cloud

By now you have seen the Amazon S3 price reduction. Effective Monday, Amazon has discounted the price per gigabyte for their cloud object store by up to 13%, with the discount inversely proportional to the storage consumed. The official explanation for the discount is that Amazon continues to innovate to drive down costs and “pass along the resultant savings to you.” If you're a competitor, you're likely to take away a different conclusion: Amazon's disruptive pricing isn't going to stop any time soon.

The Amazon announcement reveals a little known fact in the 2012 battle for the public cloud: competitors that have maintained tight control over the cost effectiveness of their software, infrastructure and operations have an unfair advantage over those that have not. Their technical and process innovations, combined with increasing economies of scale, will continue to allow them to drive the costs of cloud services down while still maintaining healthy profit margins.

Unfortunately for some emerging clouds, in a rush to enter the market they have not maintained strict control over the cost effectiveness of the basic building blocks of their service. One of the most common sins is the licensing of expensive third party software and/or non-commodity hardware for core components, which gets passed on to customers via the cost of goods of the cloud service. While licensing third party software is nothing new in the cloud, what is different is the more common use of consumption-based licensing for lower level services. With consumption-based licensing, the more a customer consumes of the cloud service, the more the cloud provider needs to pay a technology provider. This model is further amplified by the fact that core services - such as compute, storage and basic application services - are the building blocks of higher level cloud services (e.g. Amazon RDS uses EC2 compute and EBS storage to deliver their database service). So as a cloud provider moves up the application stack - and all cloud providers will eventually need to move up the application stack - they carry with them the weight of the margin stacking decisions made for lower level services.

A former colleague liked to say: “the cloud is a game of pennies.” Amazon’s price reduction is a sign that their book selling DNA not only understands they are playing for pennies, but that they have maintained tight control over the cost effectiveness of their technology, process and infrastructure. So as we celebrate the price reduction, competitors take note: it’s not enough to get a feature competitive cloud offer to market - you also need to do so with economics that enable you to compete in the game of pennies.