From capex to opex - cloud-based ‘as a service’ solutions

26 January 2014

Cloud-based ‘as a service’ solutions are becoming the norm for companies in the new customer-driven economy. Forrester analysts Andrew Bartels and Fred Giron explain to Steve Dunkerley the effect this is having on capital expenditure, financing models and stakeholder relationships.

According to Forrester, the weak start to 2014 resulted in slower global business-technology market growth. That said, total spending across all categories of technology was an eye-watering $2.2 trillion this year. Star performers included software and IT consulting and integration services, which grew by 5.8% and 3.8% respectively. Analyst Andrew Bartels puts this growth down to the fact that such categories are integral to the customer-driven economy. While companies are currently investing in social, mobile, big data and cloud-based technology, Bartels views an earlier paradigm shift in the 1990s, when business applications such as ERP and CRM were first hosted on the internet, as a bigger deal from a tech-spend perspective.

"One of the interesting paradoxes is that we are not seeing the kind of growth of spending today compared with the 1992-2000 era," he says. "In that period, we saw tech markets that were generally growing, on average, twice as fast as the economies - especially in the US and in northern Europe. This time, we are seeing growth that is more or less at the same rate as the economy. It is a bit of a puzzle as these are very new, transformative, interesting and exciting technologies."

Although economic conditions have resulted in a softening in IT spend, the rise of 'as a service' cloud solutions and the way it is financed has also had an effect.

"Cloud changes the timing of when corporate spending occurs," Bartels continues. "Previously, when you bought a piece of licensed software, you paid a licence fee in the first year and a maintenance fee over the next five years - typically 20% of the licence. In that case, at least half - if not more - of your total five-year spending occurs in the first year. With a cloud/SaaS subscription model, maybe less than one fifth is occurring in the first year because of ramp up. As you start small, build up as you get more users. This means that cloud is pushing a lot of the spending into the future."

Cloud control

While assets are effectively being sub-leased in cloud or managed services contracts, the direct lessees of capital intensive technology assets such as data centres, according to Fred Giron, are increasingly the cloud-service providers themselves.

"Although cloud and managed-services providers are helping reduce the need for companies to acquire their own assets, the reality is that money is still required to pay for ICT subscriptions."

"In the long term, a lot of computing power, storage capacity and network capability that was previously sold and financed directly by enterprise clients is now being delivered to the service providers that are building these cloud data centres and cloud capabilities," he explains. "These service providers then ultimately deliver the computer, storage and network as a service to the enterprise clients that previously procured or sourced their capability direct from the captive lessors."

Although cloud and managed-services providers are helping reduce the need for companies to acquire their own assets, the reality is that money is still required to pay for ICT subscriptions. With the rise of big data and analytics, unified voice and communications, there are many new technology assets that are on shopping lists and need to be purchased.

Financing of IT

Financing provided by technology vendors, or captive leasing, is growing in popularity, says Giron, and reflects the growth in cloud-based 'as a service' models among other managed service models.

Forrester ranks captive leasing second after internal funds as the method most used by businesses to acquire technology across Europe - 32% of respondents to a recent pan-European Forrester survey found that total cost of ownership (TCO) was the most important factor when assessing financing options. While a lower TCO is a key part of the captive lessors value proposition, the added-value provided by the lessor in the form of asset life-cycle management and deep knowledge of the asset, is perhaps even more compelling as IT executives are freed from having to maintain, upgrade and retire the assets in-house.

Changing stakeholders

Shifting the responsibility for capital-intensive technology to service providers is welcome news to CFOs. It also means easier access to technology-enabled capability, so lower-level managers within the business can acquire technology without the scrutiny of IT gatekeepers.

"The old model where the IT department pitched CFOs about a technology has evolved," says Bartels. "If the technology is inexpensive, then it is bought by the business as an expense and the CFO won't even know about it. You get the CFO involved when the amounts start to be meaningful and there is a need for budgeting review. The CIO gets involved when the business starts asking for data from systems for their applications, or when an application is using corporate data and the CIO questions its security. The CEO starts getting asked in a board meeting where IT spend is going."

When it comes to larger technology or IT service contracts, and while there is greater access to technology, Giron adds that CFOs tend to get involved at the solution-evaluation stage, while CIOs are most active during the request for proposal (RFP), request for information (RFI) or project proposal stage. The key drivers of innovation within a business according to Giron are still the chief marketing officer, sales and business functions that are reaching the customer and trying to find new ways to engage with them to deliver more value to the customer experience.

The CFO can also be involved in the innovation agenda when seeking acquisition targets or setting up an internal venture capital fund.

"CFOs may not drive the innovation per se but could, for example, set up an internal VC fund to fund innovation," he says. "They can then let the digital experts, customer experience and marketing guys leverage some of these funds to achieve innovation. If there are the right metrics and innovations in place, they can help ensure that initiatives can bring value to the organisation. They can also adopt an M&A approach to bring innovation into the business. Companies that want to achieve quick wins from an innovation perspective without having to develop solutions in-house can acquire a company that already has the capability with the help of the CFO."

According to Giron, the CFO doesn't want to take a starring role in the new digital transformation paradigm, but be a partner to the business.

"It's a collaborative effort across the board. It is not just the CIO, CMO or digital officer doing it; something needs to be embedded in the culture of everything the company does," he adds. "So from a finance, marketing, sales, manufacturing or customer-service perspective, all these different business functions need to be digital and it needs to be embedded throughout the organisation."

Leasing, managed services and cloud

Fred Giron breaks down the differences between traditional leasing compared with the financing of managed services and cloud.

"Forrester ranks captive leasing second after internal funds as the method most used by businesses to acquire technology across Europe."

"With leasing, you are responsible for your own assets and ensuring that the services are delivered to your users, says Giron. "In managed services, contracts typically run for three to five years and where responsibility for service delivery is transferred to an external managed services provider. Cloud is a type of managed services, but has a different delivery model as you have a multitenant architecture and/or infrastructure that's shared. It's not a service where infrastructure is dedicated to one client; it's a type of managed service that can be shared across different clients, which is interesting from an economies-of-scale perspective, and the fact that you optimise the use of the underlying assets, which is the economic value of the cloud model. From a leasing perspective, part of it is linked to leasing of the infrastructure, computer, storage, network and capacity, and the application of software as a service."

The age of the customer

Forrester recently introduced a new way to look at tech spending in terms of customer-process technologies, employee-process technologies and infrastructure technologies. Customer process technologies include customer relationship management (CRM), marketing automation, commerce servers, web content management, contact centres, analytics and the associated consulting, integration and outsourcing services. These technologies, according to Forrester, represent 13.0% of total tech spend and are deployed to help firms win, serve and retain customers. The prediction is that they will grow faster than the overall tech market, rising by 9.6% in 2014 and 12.0% in 2015.

The back-office systems that employees use to run the business, operate the systems that deliver the products and services to customers, and manage the customer-oriented workforce is what Forrester calls "employee-process tech", and represents 45% of global tech buying, while tech infrastructure, which includes data processing, storage and network technologies, represents 41%. Employee-process and infrastructure have had far more modest growth compared with customer process technologies.

Andrew Bartels is a member of Forrester’s business technology futures team, which serves CIOs and their business partners by predicting the long-term business impact of information technology. His research focus is on smart computing, analytics and tech-driven business transformation.
Fred Giron serves CIOs and their business partners by predicting the long-term business impact of business technology. His research focuses on software-asset-based models and their role in clients’ digital transformation initiatives.