Wednesday, June 19, 2013

Economics Always Wins

Much of what we learned early in school proves to be only partially correct.  Thomas Edison invented a light bulb, not the light bulb.  Nikola Tesla didn't discover alternating current, he invented the AC multi-phase induction motor.  And Henry Ford didn't invent the assembly line, he was the first to apply it to mass production.  So the question is why were the considerable accomplishments of these men, and many others, embellished?  Of course it's because they changed the world, but the way they changed the world is simple economics.

Successful inventors tend to have one thing in common; they made their inventions a must have.  In other words they created a compelling economic argument in which the benefits of the invention far outweighed the cost.  Edison made the first long lasting light bulb, one with a life measured in months, not days.  Tesla's motor was the key to unlocking the power of AC which delivers power over a greater distance at a much lower cost than the competing DC system (of Edison).  And Ford continuously worked to make his vehicles less and less expensive through optimization and automation continually expanding his potential market.  Economics drove the success of the McCormick reaper, Otis elevator, Carnegie steel, and even the Singer sewing machine (which Singer built by infringing on the patent of another inventor, but Singer made the sewing machine affordable so many give him the undeserved credit).

The reality is that by definition, economics always wins.  More properly said, a compelling economic opportunity always wins in the market.  When one doesn't win we find out that, in fact, there was another more economically compelling option.  Public cloud will win over Private cloud for one simple reason: economics.

The foundation of the compelling economic argument of Public cloud is simple: it enables companies to leverage the assets of others for their benefit on a pay-as-you-go basis.  There are numerous examples of cloud in the real world, but my favorite is shorting stocks.  When an investor wants to short a stock, make a bet against the future value of a stock, they have to find someone who has a 'long' position, someone who owns the stock and intends to keep it.  The 'shorter' buys the rights to the 'long's' stock for a fee, sells that stock to lock in the profit, waits for the stock to drop (and that's the risk), then buys back the stock at the lower price.  The 'long' is given back stock equivalent to what was borrowed plus the fee and the shorter books the profit.  The only way this transaction can work is because someone owns the underlying asset, the stock, and it doesn't have to be the beneficiary of the transaction.  Conventional thinking says own the asset so there is a redeemable value; money spent as an expense has no residual value.  This argument is true when assets have the opportunity to grow in value or the cost of capital is low enough to justify the investment.  Nobody has ever argued technology is a wise asset investment, but it is a necessary one.  So its no surprise that company after company is getting over their fear, uncertainty, and doubt and moving in the direction of Public cloud where they can leverage the assets of others.

Companies, in particular banks, make quite a bit of money by leveraging the assets of others.  With no assets to buy, capital is preserved which can be used for other investments (the Capital Preservation argument).  Instead, the company pays for the computing and storage power as an expense enabling them to book the cost against the earnings generated from the expense.  The net result is a more accurate reflection of the financial health of the company (the Cap-Ex to Op-Ex argument).  By not acquiring assets there is no need to service them in the form of people, power, facilities, management, and overhead (the Cost Savings argument).  Best of all, because the underlying asset is owned by someone else, making a decision to change assets is easier and less costly (the Time to Market argument and my Asset Gravity and Friction argument).

What about Private cloud?  It's capital intensive and asset heavy weighing down both a company's cash flow and balance sheet unnecessarily while restraining innovation by piling up assets that must be re-used.  Private cloud is an on-ramp to cloud, and like the on-ramp to a highway it's best left in the rear view mirror if the driver wants to progress.  What Private cloud gives a company is a security blanket as they learn the ins and outs of cloud.  How?  Private cloud, as it largely exists toady, embraces traditional views of security, control and reliability.  However as the business responds to the consumerization of technology, the business needs new capabilities.  And those capabilities are largely incompatible with traditional security, control, and reliability approaches.  This creates a quandary: either continuing doing what we've always done and surf the downward wave of our demise, or reinvent ourselves and ride the crest of change.  Successful companies in their markets will make the transition.  They'll question convention and build new approaches compatible with new needs.

To those who don't agree, all I can say is feel free to fight economics.  You'll be in great company with names like Studebaker, Sun Microsystems, Blockbuster, and Hostess.

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