Cloud Econ 102: How five leading firms put cloud economics into practice
Financial Services Lead, Customer Value & Transformation Advisory, Google Cloud
CEO, Rubin Worldwide
Welcome to Cloud Economics, where you will learn how to measure the efficiency and effectiveness of your cloud investments.
Cloud economics is back in session, and it's time to put some of what we've learned into practice.
Our first piece on cloud economics explored the economic sources of value in a cloud migration: optimizing technology investments with cloud flexibility and speed; reducing operating expenses through AI and insight powered process improvements; and growing revenue by speeding up the ability to release new features and build new markets. In this post we will dig further into the underlying drivers of this value, and the core framework to standardize measures of Cloud Economics.
To understand the dynamics of cloud adoption, we have studied a quintet of global corporations for roughly a decade, analyzing how their technology investments and practices impact their business performance. This group of cloud-mature, digitally transforming organizations, which we call “The Five,” are drawn from a range of geographies and industries, including banking and retail. Each has shown an ability to drive meaningful investment on, and are seeing returns from, their cloud journeys. Among the benefits The Five have achieved are increased efficiency, cost savings, and higher levels of growth.
They are not just heavy users of cloud infrastructure, however — they also changed how they develop and operate software with DevOps best practices to best take advantage of what the cloud offers, while ensuring tight governance with a cloud business office and mature adoption of FinOps.
For organizations looking to achieve the most with their cloud investments, a careful study of The Five and their best practices is a useful place to start. Investing in innovation is essential to every enterprise these days — and so is optimizing and benchmarking, to ensure those investments are actually paying off. Here’s how The Five got there.
Starting With IT Optimization
Most firms have some amount of waste in their IT spend. Some have a lot. The sources of suboptimal investments generally come from trade-offs made by the firms on their way to driving the business forward. This could be anything from standing up silos of data to support specific initiatives or building a large fleet of servers to support a major product launch. Then there’s the granddaddy of IT waste: partial integrations from mergers and new business lines.
The Five are no exception. These firms each found themselves with two classic challenges: spending a lot more than they should on application infrastructure, and, subsequently, spending a lot more than they should on maintaining that infrastructure over time. The Five each found themselves looking for ways to optimize their technology investments, and thereby spend more on growing the business and less on running it.
In adopting the cloud, The Five found that they could de-duplicate their environments, and, more importantly, only provision and pay for what they actually need when they actually need it — thereby dramatically improving their overall utilization and ultimately reducing their infrastructure costs.
While The Five certainly benefited from the continually improving economics of computing that is enjoyed most fully on cloud servers that are routinely updated and maintained — thank you, Moore’s Law — the greatest source of savings was optimization of their infrastructure environments in the move to cloud-based compute, storage, and networking.
Even then, cloud-based right-sizing, with its improved utilization and provisioning speeds, was only part of the story. The move to cloud also freed up capital that contributed to The Five’s ability to invest in new, higher-value features and functions, such as deploying AI, analytics, and security features that are by-and-large only available on cloud platforms.
Another important consideration in moving to variable cost infrastructure is economic agility and responsiveness of variable costs. Traditional fixed-cost infrastructure investments accrue to the income statement in both high-demand and low-demand cycles. Moving to variable infrastructure now enables The Five to lower costs in down cycles, and spin up more infrastructure in up cycles, thereby improving their cost responsiveness — both in terms of magnitude and speed — to market-driven economic forces.
App-lying strategic investments
With their newly freed up IT capital, The Five began reinvesting their cost savings from cloud migrations into higher-return projects in AI, automation, and other digital initiatives enhancing operational efficiency and customer experience.
These projects went beyond infrastructure, helping to optimize business processes along the value chain. They focused on taking advantage of cloud-native services, such as natural language processing and pattern identification with AI and Machine Learning, as well as data and analytics with cloud-based data management, which help to drive out process costs and waste. Such investments enabled higher levels of automation, and helped keep operating costs flatter over time.
The Five each found themselves looking for ways to optimize their technology investments, and thereby spend more on growing the business and less on running it.
Adopting cloud-based infrastructure and cloud-native solutions is only part of how The Five were able to optimize their IT investments. The adoption of cloud-based software development best practices is key to gaining full advantage from a shift to cloud computing.
These best practices enable IT organizations to develop and deploy more capabilities, at a faster clip, with lower costs and more stability. Through these investments The Five were able to focus more on new capabilities, and less on supporting them. In fact, The Five spend on average 8.5% more of their total IT budget than their peers on developing capabilities, and 5.5% less of their overall IT budget on application support costs.
These investments, combined with the speed and stability of cloud-enabled software development practices, helped The Five accelerate their teams' ability to deliver innovative applications and experiences. Over time, they were able to achieve higher levels of business growth through the new capabilities, new customer experiences, and new services they had created.
The combination of optimized technology spend, investments in operational cost cutting, and new technology-led revenue growth made considerable contributions to improving The Five’s overall operating performance. During the course of their cloud journey, The Five were able to drive a 64% increase in operating margins.
Tracking investment performance with continuous benchmarking
As The Five progressed along their cloud and overall technology-transformation journey, they sought to understand the efficiency and effectiveness of their IT investments and whether they were driving business outcomes; each turned to cloud economics for answers.
To optimize IT investments effectively, businesses must carefully evaluate their allocation of financial resources, and the outcomes they produce. As mentioned in our first post, there are three main areas to investigate that can guide organizations in this endeavor.
- Level of investments: First, it's pivotal to examine whether the current level of IT investment is optimal, considering the company's financial performance. You can assess this by tracking IT spending as a percentage of the firm's revenue and income. These measures can help firms to understand relative investments supporting both revenue and profitability.
As important (if not more important) is tracking IT spend as a percentage of operating expenses. While we will dig into this more deeply in our next post, simply put, when a firm has higher levels of automation, IT expense as a percentage of operating expenses generally goes up, while overall operating expenses go down as a result of accrued savings from that automation.
- Allocation of investments: Second, it's essential to ensure that the investments are channeled towards the areas that have the highest impact on firm performance. This means reducing expenses associated with maintaining the company's operations or capabilities, and investing more in creating new organizational capabilities.
Such expenses are most readily measured by looking at IT investments in running the firm versus updating the firm, as well as looking at the costs of application support versus application development. These measures can also give firms a general sense of how much technical debt they might have in their environments, or how well they are able to operate their technical infrastructure.
- Investment Performance: Finally, companies must strive to achieve “technical leverage”— a term referring to the ability of IT investments to generate disproportionate growth and returns. Not all investments are created equal, but all investments should go towards driving growth and profitability.
This can be quantified by evaluating the revenue and income supported per dollar spent on IT. Another view of this, going back to the idea of automation and operating expenses, is looking at revenue and income per employee, which when compared to industry peers with similar value chains, can be an indicator of the levels of automation that a firm enjoys.
Through smart investments The Five were able to focus more on new capabilities, and less on supporting them. In fact, The Five spend on average 8.5% more of their total IT budget than their peers on developing capabilities and 5.5% less on support costs.
In the digital economy, standing still equates to falling behind. That’s why The Five have embedded continuous benchmarking into their cloud journey. This process involves regular assessment of their IT and business performance metrics, comparing them against industry leaders and best practices. Tracking progress, and measuring its impact, informs strategic decisions about investment allocation to ensure maximum growth.
When examining The Five and their cloud migration journey, the insights and strategies they’ve employed are not exclusive to them, and can offer a practical roadmap that businesses can apply in their own transformation. A cloud migration goes beyond a mere shift in technology, but rather it’s the catalyst of a strategic transformation of the organization that reverberates throughout the business.
By embracing data-driven AI and automation, continuously benchmarking their success, and strategically reinvesting savings, businesses can stimulate innovation, respond to rapidly evolving market demands, and unlock the transformative power of the cloud.
Please join us in three weeks for for Cloud Econ 103: Getting a grip on your cloud economics, where we will explore in more detail how you can apply the cloud economics framework to your own organization.