Infrastructure services should be means, not end, for IaaS providers

As IaaS prices continue to fall and dilute already thin margins, IaaS providers must reposition their offering as a cloud services building block.

Service providers know that Infrastructure as a Service is where the majority of their cloud revenue currently

comes from, and it is where the largest numbers of providers are offering services. The question is whether cloud operators need an IaaS play for the purpose of positioning and whether they need to transition through it on their way to a more profitable cloud business model.

What makes Infrastructure as a Service (IaaS) attractive isn't its technology so much as it is the lack of it. IaaS is essentially a virtual machine (VM) hosting service where IaaS providers offer a platform into which users load complete software images (operating system, middleware and applications). Because it mimics a VM, it can run virtually anything, and that makes IaaS a kind of Swiss Army knife of cloud services. Sales organizations in particular can rely on IaaS to give them an entrée into a business, no matter what platform or application the prospect might have selected.

The problematic part is that because IaaS is the most basic level of cloud services, it generates the least amount of revenue. With limited options for feature differentiation, IaaS is likely to be totally price-driven, making margins thin and pricing stability hard to obtain. While network operators tend to have lower return-on-investment targets than other companies, even these cloud players would prefer to have higher margins and a reliable way of making their services "sticky" to retain customers and lower churn and marketing costs. Most cloud operators believe their future lies in Software as a Service (SaaS) and that as commercial software evolves to meet the cloud era, it will be written for a cloud platform and not require IaaS any longer. Why then stay with IaaS, and how long will it be attractive to offer the service?

IaaS offers the foundation for providers' SaaS plans

Besides the advantages IaaS offers in the current market in sales targeting, IaaS is also the foundation for most cloud providers' SaaS plans. A developer relationship with a software provider, combined with an IaaS provider's services to host that software, creates a SaaS offering. The cloud provider can take a share of the SaaS retail profits and also earn a profit on hosting the software via IaaS to significantly improve margins. Because IaaS offers complete flexibility in hosting software, the cloud provider can pick software partners whose offerings match its internal market demographics and needs to optimize success, and quickly change directions if industry trends influence opportunity development.

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IaaS may also offer a path toward Platform as a Service (PaaS) cloud computing, whose profit margins are roughly between those of IaaS and SaaS. Amazon Web Services' Elastic Compute Cloud service, for example, is an IaaS offering whose features are augmented by other Amazon services ranging from database services to content caching. These new services add to the revenue per user and tend to tie users to the cloud provider because the applications now depend on the additional services to run correctly. Some believe that the cloud platform of the future will evolve from IaaS with the addition of more and more cloud-specific features. If that's true, then IaaS is the critical bridge to the future of the cloud.

Given the price pressure in IaaS, is there a future for the service in its most basic form for IaaS providers? Current cloud providers suggest that question is likely to be answered by in the small-and-medium-sized business (SMB) sector. The largest segment of the IaaS opportunity -- 60%, according to some data -- is SMBs that lack the technical resources to manage their own cloud migration. Some early reports from cloud operators that promote software partners through portals suggest that some of the opportunity can be captured by selling SaaS versions of software that SMBs are already running. But the majority of providers will still require specialized IaaS offerings or integrator partnerships to address this portion of SMB market in its entirety.

Thinking inside the IaaS box for SMBs

Providers are interested in IaaS "in a box" types of services, and some have reportedly been exploring and even testing concepts to reduce the technical effort associated with deploying IaaS to SMBs. One promising notion has been to offer customers a single fee to create and deploy a machine image based on software the user provides. This works well for software that's revised infrequently, but an application that has regular operating system and middleware updates creates a challenge in the real world, and the exploration of an in-a-box approach is simply leading more providers toward a PaaS approach where they don't have to maintain system software inside machine images for users.

This scenario represents the threat to IaaS providers in the longer term. For enterprises, IaaS will likely always be on the menu because it offers enterprises the most general cloud strategy and provides full control of the software used. The best provider strategy for IaaS may be to discount it in a bundle with higher-margin cloud services (PaaS or SaaS) for enterprises and to support developer relationships, then to look more to PaaS or SaaS as the retail offering for the broader market.

IaaS has a future as the foundation of the developer relationships that are the overall key to public cloud service success and as the universal constant to enable cloud services in any enterprise. While most IaaS providers will agree that the service isn't the future of their profits, it is surely an important element of that future -- perhaps even an essential one.

About the author:
Tom Nolle is president of CIMI Corp., a strategic consulting firm specializing in telecom and data communications since 1982.

This was first published in September 2013

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