The cloud ate my valuation

The cloud ate my valuation

The cloud ate my valuation!” could be the new expression to explain why promising scale-ups and unicorns will not be able to generate a healthy profit margin structure. The simple reason: they spend too much on the public cloud as a percentage of their total cost of revenue (COR).

Recently, a stunning report by Andreessen Horowitz (a16z), one of the most successful venture capitalist firms, blew my mind. It’s not only that the public cloud spendings can be as high as 80% of the COR, but that with such weak margins, today’s unicorns are undercutting their market capitalization. Startups are born in the cloud. The public cloud fuels the stellar growth of scale-ups on their way to their initial public offering (IPO) or acquisition. But the public cloud, dominated by the oligopoly of Amazon, Google, and Microsoft, can also lower valuations.

The a16z report dives into the Dropbox case. Before their IPO in 2018, Dropbox started with a massive cloud optimization program in 2016. It boiled down to cloud repatriation” by migrating most of their workloads to their own collocated infrastructure. The gross margin of Dropbox doubled in two years: from 33% to 67%, primary to the repatriation. Every dollar saved in IT infrastructure optimization (improving the bottom-line) increases the market cap 25 times.

Unicorns are privately held tech startups that have achieved a valuation of $1.000 Million or more. They are proliferating like rabbits. In Europe, the Netherlands ranks 4th with 12 unicorns (after France with 13, Germany with 30, and the UK with 74). That was in 2020. The Dutch payment serviceprovider Mollie recently valuated $6.5 Billion. It’s going to be a roaring twenties for scale-ups.

Many digital platforms follow one simple rule: the winner takes it all (WTA): the final winner will have the commercial benefits of a monopolyposition. Until then, you need shedloads of money and investors that stick with you. You spend money like water to undercut incumbent firms that you plan to eliminate. But, what if in your business, WTA turns out to be a fata morgana? Then you are just a superb company in need of healthy margins. You have to take care of your bottom-line to make a profit (like the incumbent companies you’re trying to undercut). The total cost of delivering your services to your customers (the COR) suddenly kicks in.

Cloud economics is a Catch-22: you can’t afford not to start in the cloud, but you are also crazy if you stay in it too long without a plan to optimize your infrastructure more cost-efficient. Dropbox’s cloud repatriation (for a substantial part of their workloads) is writing on the wall for every CEO, CFO, and CTO of scale-ups: get your act together on cloud economics and possibly consider a hybrid cloud strategy.

Incumbents are notoriously famous for their IT legacy. With their unbridled growth ambition, the risk that scale-ups create their legacy swamp is real. With all those gifted and headstrong developers the question occurs: who is in charge of the overall IT landscape? One brilliant decision at the time’ doesn’t make a future-proof IT architecture when you are in the hypergrowth modus. Every company should address cloud economics as a top priority: the costs and the value (time to market, ability to innovate, intellectual property) are urgent in order to survive.

The report is furthermore a cry for top-notch managed service providers (MSP). In The Netherlands, cloud journey providers like Schuberg Philis, Solvinity, and Sentia can address this market opportunity. The long-term cost implications of the public cloud are uncharted territory. As Giarte, we have seen so-called cloud bill shocks, surprising CIOs and CFOs at incumbent companies. Their cloud spending went through the roof due to a lack of active cloud cost management. That problem is often fixable with cloud economics reducing the average bill by 30% or more. The public cloud is like Willy Wonka’s magic factory: producing candy that changes its colour and flavor constantly. When you don’t pay attention, you miss out on new opportunities and cost avoidance. So is the cloud turbulence of scale-ups. We enter a new phase for MSPs and data centers. As Interxion claims on its website: The Data Center is Not Dead!

Marco Gianotten is founder of GIARTE — At Giarte, we firmly believe IT isn’t about bits and bytes. It’s about people. We design the tools and insights to reveal the human experience in tech.