IBM’s quarter was disappointing to most on Wall Street, their stock declining sharply with their announcement last week. Red Hat managed to post 17% growth, but IBM’s own products showed a decline. Only its consulting unit showed momentum, with an 11% gain. There’s still Street hope for a hybrid-cloud-driven advance overall, but I think that there are clear signs that IBM faces significant pressure to make the Red Hat acquisition a part of an overall company plan. That the pressure comes from multiple directions only makes things harder.
One example of this multidimensional pressure is hybrid cloud itself. We are only now starting to see broad understanding that in a “hybrid cloud” there’s a shift of application modernization effort (and budget) to building cloud front-ends to existing applications. This shift, by its very nature, tends to advance cloud spending at the expense of advances in data center spending. IBM’s own products and services are aimed largely at the data center, so it’s not surprising that a Red Hat win is at least somewhat linked to an IBM loss. That’s how project budgets are leading things.
Another problem is that the easiest way for IBM to recoup some of this budget-shift loss would be to post a bunch of wins for IBM’s own cloud. However, IBM is by most metrics fourth in the public cloud market, and Red Hat’s success is likely tied closely to being cloud-agnostic. The current numbers could be argued to show that IBM cannot win with its own products and win with Red Hat at the same time, because the cloud-or-data-center budget inverse dynamic can’t be reversed with an IBM cloud success.
The third problem is the usual problem with big M&A, which is culture shock. I’ve got contacts with both IBM and Red Hat, and it’s interesting that both see the situation in the same way, a kind of radical open-source geeks trying to cohabit with people whose architectural models are a couple decades old. Buying Red Hat was more than just smart for IBM, it was essential, but making sense of the acquisition is obviously difficult. The Street has always reported on the two companies as though they were casually dating rather than joined at the hip…because that’s what’s really true.
Hybrid cloud is likely the best model that IBM could have come up with to form the basis for unifying the fundamentally different worldviews. IBM’s strength lies in the commitment of its big customers to mainframe-model computing and the associated software. Red Hat’s strength lies in the cloud, and in the broader open-source movement. Successful hybrid bridging would require not only a way of advancing both cloud and data center, but also in making IBM’s own products relevant to the broader Red Hat opportunity base, which is made up mostly of companies that IBM has no influence with today.
The biggest technical challenge for IBM is defining that “way of advancing both cloud and data center”. Part of the problem lies in the way that cloud services are priced, a mechanism that by charging for data transport across a cloud boundary, tends to make cloud and data center distinct application domains with a minimalist linkage. Today’s enterprise use of the cloud is dominated by “front-end” missions where the cloud provides an elastic user-experience-oriented element that’s loosely coupled to transactional applications in the data center. This approach has proved highly responsive to business needs as they migrate toward a more customer-centric approach to sales and support, but it limits the symbiosis between the two pieces.
IBM, as a cloud provider, has the theoretical option of dropping those transit charges, but for the cloud providers, that decision would raise their network traffic levels sharply while eliminating the revenue that previously justified (and transported) that traffic gain. However, companies like Cloudflare are already pushing for transit-cost immunity, and if it were to catch on for the Big Three in cloud, IBM would surely be forced to adopt the no-transit-cost model even if it didn’t help create cloud/data-center symbiosis.
It wouldn’t eliminate the challenge of that symbiosis, either. Even if we suddenly erased the data-movement-cost barriers between data center and cloud, we still have other issues.
The first of these issues is the risk that the cloud, freed of those data-movement costs, would absorb more data center spending. Since IBM doesn’t dominate the cloud (by far), they would risk putting some of their data center revenues on the line for transfer to their competitors in the form of cloud charges. I don’t think that the elimination of transit charges would result in the cloud taking over entirely (as some believe), but I do think that more transaction edge processing would likely migrate out to the cloud.
The second issue is the question of (yes, my favorite factor!) architecture. How do we create what’s essentially a third hosting zone, one that both cloud and data center could support in some agile way? There’s a financial dimension to the issue; if the cloud supports elastic resource allocation that approaches or achieves usage pricing, how does the data center respond? Do we end up with “IT-as-a-service” even in the data center, where vendors have to sell their hosting and platform software on a usage-price basis?
What we’re looking at, I think, is the ultimate form of platform-as-a-service, where there’s a virtual middle-zone platform that perhaps looks a bit like the offspring of a cloud and data center dalliance. This platform, which could be VM-like, container-hosting, or both, would then map to either cloud or data center resources, making it easy to develop something that runs in the middle zone no matter where the cloud-to-data-center boundary falls for that zone.
This shouldn’t be a big deal for either IBM or Red Hat to develop, but I have to wonder whether IBM even sees the issue, much less is prepared to take a step in a novel direction to resolve it. So far, their quarter suggests that they’re hoping that their consulting services will provide the cloud-to-data-center glue, and I don’t think that’s going to work.
Companies often make a mess of M&A, mostly when they try to create a forced symbiosis between the buyer and the acquired company. So far, IBM hasn’t forced the fit, but they’re now at a point where they either have to create some harmony or accept that Red Hat is only going to contribute revenue, not create an enhanced and merged technology set. The Street won’t like the former choice in the near term, and IBM is bucking the odds if they bet on the latter, unless they work out that boundary architecture, and quickly.