Enterprise Computing Jumps on the Supply-Demand Curve

The traditional enterprise computing server suppliers are in an ever-faster game of musical chairs with cloud computing competitors. Recent cloud price cuts will accelerate enterprise adoption of the cloud, to the economic detriment of IBM, HP, Oracle Sun.

Many IT executives sat down to a cup of coffee this morning with the Wall Street Journal opened to the Marketplace lede, “Price War Erupts in Cloud Services.” Cloud computing from the likes of Amazon, Google, and Microsoft is “changing the math for corporate executives who spend roughly $140 billion a year to buy computers, Internet cables, software and other gear for corporate-technology nerve centers.” This graphic begs the question,

50 Million Page View Web Site Costs“Gee, maybe my data-center computing model for the company needs a strategic re-think?” And while there’s a very active consulting business by the usual business-transformation consulting suspects, the no-cost answer is: yes, cloud computing is a valid model that most enterprises and applications should move to over time.

This blog post, though, is not about the nuances of cloud computing today. Rather, we need to take a look at how the supply-demand curve for enterprise computing must impact the traditional enterprise server business — hard. (And yes, I am breaking a vow made during Economics 101 to never mention economics in polite company).

Cloud computing is sucking the profits out of the traditional server business.

For over fifty years, in the case of IBM, the traditional server companies including HP and Sun sold big iron, proprietary operating software and storage, and lots of services at high margins. In the past two decades, Intel’s mass-market silicon evolved into the Xeon family that took away a large percentage of that proprietary “big iron”. Yet the Intel specialist firms such as NCR and Sequent never could beat the Big Three server suppliers, who took on Xeon-based server lines of their own.

Cloud computing is sucking the profits out of the traditional server business. IBM is selling its Xeon business to Lenovo, and is likely to considerably reduce its hardware business. Oracle’s Sun business looks like a cash cow to this writer, with little innovation coming out of R&D. HP is in denial.

All the traditional server companies have cloud offerings, of course. But only IBM has jettisoned its own servers in favor of the bare-metal, do-it-yourself offerings from Amazon, Google, and lately Microsoft.

Price-war-driven lower cloud computing prices will only generate more demand for cloud computing. Google, and Microsoft have other businesses that are very profitable; these two can run their cloud offerings lean and mean. (Amazon makes up tiny margins with huge volume). To recall that Economics 101 chart:

Supply-Demand Curve

The strategic issue for IT executives (and traditional-supplier investors) is what happens over the next five years as lower server profits hollow out their traditional supplier’s ability to innovate and deliver affordable hardware and software? Expect less support and examine your application software stacks; you’ll want to make migration to a cloud implementation possible and economical. The book isn’t even written on cloud operations, backup, recovery, performance and other now well-understood issues in your existing data centers.

Meanwhile, what are your users up to? Like PCs sprouted without IT blessings a generation ago, cost-conscious (or IT schedule averse) users are likely playing with the cloud using your enterprise data. Secure? Regulatory requirements met? Lots to think about.

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Gaming AMD’s 2012 Strategy

AMD intends to pursue “growth opportunities” in low-powered devices, emerging markets and Internet-based businesses.

There’s an awful lot of mis-guided analysis wafting about regarding AMD’s new strategic direction, which the company says it will make public in February. This piece is to help you (and me) sort through the facts and the opportunities. I last took a look at AMD’s strategies earlier this year, available here.

Starting With the Facts

  • AMD is a fabless semiconductor company since 2009. The company depends on GlobalFoundries and soon Taiwan Semiconductor to actually fabricate its chips;
  • In its latest quarter, AMD had net income of about $100 million on $1.7 billion in revenue. Subsequently, the company announced a restructuring that seeks to cut costs by $118 million in 2012, largely through a reduction in force of about ten percent;
  • AMD has about a 20% market share in the PC market, which Intel says is growing north of 20% this year, largely in emerging markets;
  • AMD’s products compete most successfully against rival Intel in the low- to mid-range PC categories, but 2011 PC processors have underwhelmed reviewers, especially in performance as compared to comparable Intel products;
  • AMD has less than a 10% market share in the server market of about 250,000 units, which grew 7.6% last quarter according to Gartner Group;
  • AMD’s graphics division competes with nVidia in the discrete graphics chip business, which is growing in profitable commercial applications like high-performance supercomputing and declining in the core PC business as Intel’s integrated graphics is now “good enough” for mainstream buyers;
  • AMD has no significant expertise in phone and tablet chip design, especially the multi-function “systems on a chip (SOCs)” that make up all of today’s hot sellers.

What Will AMD CEO Rory Read’s Strategy Be?

I have no insider information and no crystal ball. But my eyebrows were seriously raised this morning in perplexity to see several headlines such as “AMD to give up competing with Intel on X86“, which led to “AMD struggling to reinvent itself” in the hometown Mercury News. I will stipulate that AMD is indeed struggling to reinvent itself, as the public process has taken most of 2011. The board of directors itself seems unclear on direction. That said, here is my score card on reinvention opportunities in descending order of attractiveness:

  1. Servers —  For not much more work than a desktop high-end Bulldozer microprocessor, AMD makes Opteron 6200 server processors. Hundreds or thousands more revenue dollars per chip at correspondingly higher margins. AMD has a tiny market share, but keeps a foot in the door at the major server OEMs. The company has been late and underdelivered to its OEMs recently. But the problem is execution, not computer science.
  2. Desktop and Notebook PCs — AMD is in this market and the volumes are huge. AMD needs volume to amortize its R&D and fab preparation costs for each generation of products. Twenty percent of a 400 million chip 2011 market is 80 million units! While faster, more competitive chips would help gain market share from Intel, AMD has to execute profitably in the PC space to survive. I see no role for AMD that does not include PCs — unless we are talking about a much smaller, specialized AMD.
  3. Graphics Processors (GPUs) — ATI products are neck-and-neck with nVidia in the discrete graphics card space. But nVidia has done a great job of late creating a high-performance computing market that consumes tens of thousands of commercial-grade (e.g., high price) graphics cards. Intel is about to jump into the HPC space with Knight’s Corner, a many-X86-core chip. Meanwhile, AMD needs the graphics talent onboard to drive innovation in its Fusion processors that marry a processor and graphics on one chip. So, I don’t see an AMD without a graphics component, but neither do I see huge profit pools either.
  4. Getting Out of the X86 Business — If you’re reading along and thinking you might short AMD stock, this is the reason not to: the only legally sanctioned software-compatible competition to X86 inventor Intel. If AMD decides to get out of making X86 chips, it better have a sound strategy in mind and the ability to execute. But be assured that the investment bankers and hedge funds would be flailing elbows to buy the piece of AMD that allows them to mint, er, process X86 chips. So, I describe this option as “sell off the family jewels”, and am not enthralled with the prospects for success in using those funds to generate $6.8 billion in profitable revenue or better to replace today’s X86 business.
  5. Entering the ARM Smartphone and Tablet Market— A sure path to Chapter 11. Remember, AMD no longer makes the chips it designs, so it lacks any fab margin to use elsewhere in the business. It starts against well-experienced ARM processor designers including Apple, Qualcomm, Samsung, and TI … and even nVidia. Most ARM licensees take an off-the-shelf design from ARM that is tweaked and married to input-output to create an SOC design, that then competes for space at one of the handful of global fab companies. AMD has absolutely no special sauce to win in the ARM SOC kitchen.To win, AMD would have to execute flawlessly in its maiden start (see execution problems above), gain credibility, nail down 100+ design wins for its second generation, and outrace the largest and most experienced companies in the digital consumer products arena. Oh, and don’t forget volume, profitability, and especially cash flow. It can’t be done. Or if it can be done, the risks are at heart-attack levels.

“AMD intends to pursue “growth opportunities” in low-powered devices, emerging markets and Internet-based businesses.” One way to read that ambiguous sentence by AMD is a strategy that includes:

  • Tablets and netbooks running X86 Windows 8;
  • Emerging geographic markets, chasing Intel for the next billion Internet users in places like Brazil, China, and even Africa. Here, AMD’s traditional value play resonates;
  • Internet-based businesses such as lots of profitable servers in the cloud. Tier 4 datacenters for Amazon, Apple, Facebook, Google, and Microsoft are a small but off-the-charts growing market.

So, let’s get together in February and see how the strategy chips fall. Or post a comment on your game plan for AMD.