The game has changed: survive the cloud era with these five simple rules
Cloud has fundamentally shifted IT procurement way beyond just the boring process and cost improvements; people have changed. Buyers’ decision-making processes are different as a result of information symmetry, and game theory explains why price cuts are now big headlines, replicated across the market.
The Digital Economics Unit I manage at 451 Research has tracked how on-demand has evolved from a pricing model to a market driver. Traditional vendors have lots to lose: pricing and its comparison used to be cloak-and-dagger; now it’s out in the open, a domain unfamiliar to most sellers from the early days of computing. The hyperscalers have embraced this openness by using pricing as a battlefront, and even in private cloud, there is now more transparency from a number of quarters — but where are old-school behemoths? Their websites display the usual marketing content, but don’t address price or quantify value. Why aren’t they stepping up and fighting in this battle — justifying the value and price of their private solutions compared to the commodity? Surely the best defense against disruption is an effective offense — one that needs to come sooner rather than later.
Rule 1: Your pricing and product will always be compared to the price of the commodity alternative
Performing a cost comparison has an associated labor overhead. For example, it’s probably not worth my time and effort to search for the cheapest coffee in a city because my time is worth more than the 20 cents or so I would save as a result of the search. In the olden days of IT, comparing options had a large labor overhead. For big projects, organizations would issue RFPs to a wide range of vendors, analyze the responses, and make a decision after negotiations and deep dives. For smaller projects, comparison overhead wasn’t worth it — it was much easier and quicker to use an incumbent provider than issue an RFP. The reason for such a drawn-out and expensive process was that pricing was hidden and customized.
The RFP lives on, but improvements in information symmetry mean that buyers have an upper hand. The internet and e-commerce along with online pricing for cloud services give buyers the ability to put together a price evaluation in literally minutes. The overhead has been reduced to nearly nothing. This means buyers don’t necessarily need to seek a range of quotations to compare their options; in fact, buyers can instantly compare a quotation from an incumbent partner without even needing to evaluate other options. For sellers, this provides opportunity — price correctly with existing customers, and it’s possible they won’t even look around, at least for smaller projects. It also brings a threat — price unreasonably, and buyers will know within minutes that you are expensive compared to the commodity.
‘But we sell on value, not price’ is a line thrown at the Digital Economics Unit, particularly by older companies and giant hardware vendors. Another is, ‘Those finger-in-the-air assessments don’t reflect our value.’
My reaction to these statements is usually non-positive……
In the cloud era, no matter how valuable you think your product is, it will always be compared to the commodity — be it open source, IaaS, PaaS, SaaS or nothing — ‘nothing’ is still an option. This is change in human behavior and people don’t always make rational decisions. You need to justify your price premium, specifically focusing on why it is better than the lowest common denominator.
Rule 2: Price differentiation is temporary
Of course, sellers could decide to remove value altogether, instead focusing purely or primarily on price. But the relative ease in accessing price information described above creates an interesting game-theory scenario. Before, sellers didn’t face the same price pressure as today, because a) buyers received only pricing for their specific scenario; b) buyers didn’t share this information with other buyers; and c) sellers weren’t aware of the prices other providers quoted buyers. As such, there was price erosion as a result of negotiation on a per-contract basis, but not uniform price pressure across all services. Now, savvy sellers know they are going to be compared to the commodity. As such, they are under price pressure to respond to changes in the market price. This creates a dynamic whereby those that can cut prices do because then they are deemed more favorable by buyers. Then other sellers must respond similarly, or they risk appearing relatively more expensive than the commodity without adding new value to justify it.
In cloud particularly, prices are likely to come down. Those taking on the hyperscalers in any area, whether IaaS, PaaS, SaaS, or even DevOps or administrative tools, must recognize that even if they are cheapest today, that position will be lost at some point. The hyperscalers have huge economies of scale to purchase cheaper equipment and the desire and R&D to squeeze every penny; AWS even designed its own firmware for its switchgear to gain better electricity efficiency. You cannot, in the long term, compete with the hyperscalers on price. You need to add value now, and you should perhaps consider taking advantage of the hyperscalers’ functionality upon which you can add value.
Rule 3: You’re probably not as valuable as you think
Because of this aforementioned ease in comparing products and a more price-competitive market, justifying value is more important than ever. Value added is the amount that buyers deem it’s worth paying for the specific benefits the product gives them above the raw materials the product is composed of. Because buyers are likely to compare commodity prices to the value-added product, sellers need to articulate the specific benefits the product offers that justify its cost. ‘Specific’ is the key here: vague statements about features just won’t cut it. Sellers need to explain why the additional cost is justified: if they can’t justify it, either their price is too high or the value added is insufficient to justify the price. This was less important before cloud because buyers were at a disadvantage with fewer data points (or there was too much hassle in getting these data points) to compare to. Now, it is significantly easer.
Case studies are helpful, but statistics, guarantees and custom analyses are better. Measure the success of your product’s value proposition and release the statistics: show users, for example, how they will achieve, on average, 10% gains in performance, revenue, etc. Ideally, show all this data: how many users make gains, and how many don’t. This shows honesty and integrity, and is more believable than a case study alone. Be creative with contracts and pricing models: show how you can reduce the buyer’s risk if they use your solution over the commodity. Perhaps relate it to value: no value, no fee. Now is the time to be bold and honest. Buyers don’t want the cheapest; they want the best value for their money — the capability that adds value, for the lowest price they can pay to derive that value.
Rule 4: Value is fleeting
As competitors develop their capabilities and cloud costs come down, you will need to improve your value proposition. Better comparisons of value and price means that nothing stays still for long. And even if it did, your competitors will be developing their products giving you less of a relative advantage. Can you think of any area of IT that the hyperscalers are definitely not going to target in the next few years? There are two choices: reduce your price in-line with the market price, which is risky, or add more value over time. Add features and items on your roadmap, and show buyers what is around the corner. Branch out into other products and services so that the portfolio has diversity and your eggs aren’t in one basket. If you do have to cut prices, you still have other streams of revenue. Continually justify the value you offer for the price paid.
Rule 5: Lack of transparency suggests expense
With hyperscalers and others looking to win on price and value, and buyers able to make comparisons, a lack of transparency is likely to be seen negatively. If one coffee shop lists prices and the one down the street doesn’t, buyers naturally assume that the one that lists prices is cheaper. If the coffee shop is cheaper, surely it would have advertised it. And even if the coffee shop that doesn’t list prices is adding value, it should show its prices and justify the value: ‘Pay 10 cents more for our coffee, but it’s organic’ is a valid value proposition; ‘We’ll tell you why you should pay more if you ask’ is not. In this scenario, the listed coffee shop is viewed as the commodity (this could be public cloud, for example). If a buyer can’t make a comparison to the commodity, then the commodity is deemed to be the cheaper (or perhaps less-hassle) option.
Of course, things aren’t this simple in technology. It’s difficult to put a standard list price on a global outsourcing deal, for instance. Nevertheless, for some things, it is possible — even if you can’t offer full transparency, partial is better than none. Back to rule three, statistics and guarantees can show transparency of value — ‘20% of our customers paid less than 10% premium for our public cloud over private cloud, but reduced compliance overhead by at least $100,000’ is a valid proposition. If you don’t release any information on pricing, in the best case, it’ll irritate customers that just want to know a rough figure; in the worst case, prospective customers will believe you’re hiding something. Think about it: which vendor are you more likely to contact?
1. “Contact us to find out why our private cloud is so great.”
2. “One in four of our customers pay just a 5% premium for our private cloud over the public cloud price. Let’s find out whether you’re one of them.”
We have been producing the Cloud Price Index for about four years now, and the same trends hold true. It is always the same traditional IT behemoths that are less likely to accept this fundamental change in IT provisioning; they are significantly less likely to provide data to the index (even though we guarantee it won’t be released), they always claim that price is not important, and moot the value they provide without quantifying or justifying it. In the non-cloud world, this tactic was probably effective, but now they are bold to think they are so powerful and valuable that they live in a different world than the likes of AWS and Google. Conversely, the cloud hyperscalers have supported the index from day one and are supremely public about pricing and cuts, and they seem to know that in the new world, the rules have changed — smaller MSPs and also those in the throes of reinvention, have accepted that the rules of the game have changed. Perhaps Microsoft Azure Stack, which provides metered private cloud built upon partners’ hardware, will improve the transparency of the private cloud, at least to some degree.
In my previous incarnation as a product manager, I did rely on some data to set the price of the hosting and cloud services for which I was responsible. But thinking about it, much of it was a dark art. Buyers and sellers both had less of an idea of what was a reasonable price, and as such, much of the process was guesswork. Now, buyers do have an idea of what is reasonable, and for sellers to price using the same techniques seems dangerous.
The game has changed, and buyers have the upper hand. Sellers need to step up and justify independently why they are worth more, and use the availability of more pricing information as an opportunity to show their value, rather than a wall to cower behind because they are scared of revealing that they’re not worth the premium.