The fog was a 1980 horror movie that was remade in 2005. The basic plot line was a fog rolled in and started killing people and wreaking havoc on a small town. While I have not seen the movie (either the original or the remake), I can’t help but think that the cloud is beginning to look like the fog. Granted the cloud is not killing people is does look like it will have a dramatic impact on the IT services providers.
This past week showed a glimpse into the reason that the cloud is looking more like the fog in terms of jobs. On October 20th IBM reported their earnings. They missed badly, posting EPS of $3.68 compared to estimates of $4.31. There was a lot of discussion about the miss on the financial networks and the financial analysts had a lot to say. From an industry perspective, there was one part of the earnings announcements that jumped off the page; services backlog dropped 7%. The services business is mainly about managing backlog. This is especially true for IBM as they have a very large outsourcing business that relies on long term deals. On the same day, SAP also released their earnings and also missed. While the miss was not nearly as dramatic, 0.844€ compared to estimates of 0.858€, it was still a miss. So while the IBM miss got more attention, it was not the only miss of the day.
There are two things going on that have effected these two vendors. The first should be of no concern for anyone other than the financial analysts. That is the different accounting treatment of cloud services compared to traditional on-premises software. Loosely translated, companies can recognize all of the revenue from a traditional sale of software at the time of sale. In a cloud sale, the revenue has to be recognized over the length of the contracts. This results in a lower initial revenue and the time of sale. The financial analysts will have to rebuild their models to account for this and over time they will. Customers should not care about the accounting changes. The other effect should be of more concern over time and it is related to the drop in IBM services backlog. That is the cloud is cannibalizing a lot of traditional business. One of these is the outsourcing market. Why would a customer enter into a 7-10 year outsourcing deal when they could move to a shorter cloud deal? Granted the changes are going to be slow and the traditional outsourcing deals will never go away entirely, they will shrink in comparison to cloud delivered services.
But why should customer care if the IBM and the other outsourcing vendors are having financial problems? It comes down to how the vendors react to the declines. When a companies see the market moving away from them they tend to react in a few different ways. The best way to react is to adjust the go to market, change products to keep up with the market, and manage the transition from the old to the new. The best companies will do this and their customers will stay with them. A bad way to react is for the company to effectively stick their heads in the sand and pretend the change is not happening. There will be a handful of companies that despite their marketing hype will do this. Customers of these companies will abandon them and have to incur the switching costs associated with going from one vendor to another. The worst way to react will be to fight the change. Fighting the change will involve trying to lock customers into dying solutions and erecting roadblocks to customer migration. It is the customers of these vendors that will be in the most difficult position.
The benefits that customers have at this time is the transition will be slow and they will have the opportunity to watch their services provider and see how they are reacting. Companies that are reacting well will be going to their customers and discussing roadmaps for the current engagements. They will be flexible in their approaches to new technologies and business relationships. Companies that are reacting badly, will have a lot of marketing around the new technologies but they will have a hard time executing against the marketing collateral. They will be perpetually behind the market and their vision will be limited. Finally, the companies that are reacting the worst will show limited to no flexibility in their discussions with customers. By watching the providers customers will be in a better position to figure out how the provider is reacting and make the appropriate plans.