Given the slew of communications and collaboration-related cloud announcements over the last 12 months, many industry watchers consider 2014 as the year of the enterprise telecom cloud. I'm not sure, however, that we've yet seen the real impact and transformative power of cloud on the telecom or, more accurately, the business communications and collaboration market yet. We may soon, though, considering the moves Microsoft and Google are making to position themselves as communications cloud providers.
I think about the cloud transformation and business communications and collaboration in terms of the argument software industry expert Timothy Chou lays out in his book, Cloud: Seven Clear Business Models. Chou suggests that the migration from a privately-owned, premises-based environment to a cloud model is well defined and predictable. He argues that cloud is not about technology but rather about a business model. Although technologies like virtualization and multitenancy are necessary underlying pieces, the business model is the critical consideration.
As seen in the chart below, Chou's seven models range from the traditional approach in which the enterprise buys and deploys software on servers it owns and operates with internal staff through an approach in which the enterprise receives services for free, often as a trade-off for information the service provider gleans from users. Model 6 represents the stage at which the enterprise has moved out of the premises and buys the SaaS capabilities it needs on a monthly basis (think Salesforce.com).
The critical point of Chou's logic is that from Model 3 to Model 5 an ongoing process of specialization, standardization and repetition reduces the cost of providing the service -- and, therefore, the price an enterprise organization pays to consume the service. As an example of this disruption, the chart shows a business application going from $20,000 per user per year in Model 1 down to $1,200 in Model 6. CRM is a case in point for the trend. Circa the year 2000, a CRM seat typically cost $3,000 to $6,000 annually when deployed and managed internally per Model 1. Then along came Salesforce with a monthly cloud business model that offered CRM at a per-seat cost of about $700 annually. The result is a three to five times, or 66% to 80%, reduction in cost to the enterprise.
Lessons From the Industrial Revolution
When I talked with Chou a few years back, I had an epiphany: Cloud is the computing equivalent of the Industrial Revolution. Just as the Industrial Revolution changed the manufacturing of things through specialization, standardization and repetition, so too will the cloud revolution change the delivery of communications, collaboration and other business technology today.
Prior to the Industrial Revolution, things (think chairs, tables, forks... any object) were one-offs. In 1750, if you wanted hinges for your new outhouse, you commissioned the local blacksmith to forge them. He pounded them out in an hour or two. By 1850, the Stanley works or some other factory was churning out hinges in a matter of a few minutes through specialization, standardization on certain sizes and repetition of the manufacturing task. Today, when you go to Home Depot to buy hinges for your outhouse, the labor cost is probably measured in seconds.
Let's look at how this line of thinking applies to telecom communications and collaboration services -- which, I argue, no company has yet really served up in a true cloud model. The cost of a business communications seat has not changed dramatically for more than 30 years (ignoring inflation). Total costs for a typical business-class telephone includes the cost of the device/user license, support and service, the cost of PSTN access, and the cost of internal administration (typically 50% to 75% of the basic device/service cost). The cost of the devices and service (excluding PSTN and internal administration) has remained steady at about $200 to $240 per year per seat ($17 to $20 per month). That's how much a Centrex line cost 20 years ago, and that's how much a PBX-based phone (TDM or VoIP) costs today.
In the PBX world, the cost is fairly evenly split between the original purchase/installation (and minor upgrades) amortized over a six- to seven-year period and the annual costs of support and maintenance including break/fix and moves, adds and changes. PSTN access prices are highly variable, but for a user with 20 to 30 minutes of daily use 20 days per month, the 400 to 600 minutes at 1 to 2 cents per minute is typically around $5 to $8 per month today. So the total cost of a business communications capability, including PSTN access, is around $25 per month plus internal administration (typically another $10 to $15).
Interestingly, emerging cloud vendors like RingCentral and 8x8 typically charge about $25 per month for a cloud service including PSTN access. While the cloud model provides economies of scale, the cloud service pricing still appears to be the same as or more than the traditional models. In fact, the mock RFP analysis at last year's Enterprise Connect showed every cloud offer to be more expensive at a system size of 2,000 users than any of the premises-based alternatives. The cloud providers are still operating much like blacksmiths necessary for crafting one-off, custom goods for purchase prior to the Industrial Revolution.
Click to the next page: Pricing Voice the Cloud Way
Pricing Voice the Cloud Way
The question, then, is: Will a true cloud business model ever come to the telecom industry? We could have an intellectual debate about the differences between telecom and other IT industries, but it's probably better to look at the data showing that the cloud revolution is, in fact, coming. If $25 per month is the Model 1 pricing, what Model 6 pricing we can expect when cloud really happens?
To illustrate, let's use that $25 per-month figure as the cost basis by which we compare the pre-cloud revolution pricing model against what I consider true cloud pricing. As a first example, we can look to the Aastra (now Mitel) pricing offer for the Internet2 Consortium VoIP service. The Internet2 Consortium, a high-speed network for universities and research labs, received pricing of $7 per month per user for a complete VoIP service delivered over the Internet2 IP network (Aastra hosts and operates the service). This was the first example of a pricing model reflecting true cloud business parameters (millions of seats, standardized offer, etc.).
The next example is Switch.co, which is offering VoIP service to Google Apps users at a base price of $15. At 40% off the $25 pre-cloud pricing, the Switch.co pricing isn't quite as cloud friendly as Aastra's $7 monthly charge, which is a 72% reduction from our base pre-cloud pricing. That said, I do expect the Switch.co VoIP pricing to drop at some point.
A more significant impact may come from Microsoft Office 365 (O365) and Lync (soon to be called Skype for Business). Microsoft clearly is encouraging us all to move to a cloud model for personal productivity software as provided through O365 (full disclosure, I am an O365 user for email and collaboration, but not for voice -- yet). Rather than buying or licensing those components as software, the O365 is a cloud model with reduced cost, but ongoing revenue, forever. And Microsoft has had great success with O365 adoption.
At the UCStrategies spring UC Summit, we learned from Microsoft that it had a $1.5 billion run-rate for O365 subscriptions at the beginning of 2014. With average revenue of $100 per year per subscriber, this represents 15 million subscribers. As Microsoft discounts from the base subscriber charge of $12 per month on volume and sells through channels, an average of $100 per year is reasonable. More recent data from a large analyst firm shows that Microsoft now has 25 million O365 subscribers with annual growth of 70% to 100%. This means the number of O365 subscribers likely will grow to around 30 million by early 2015 and 50 to 60 million by the end of next year.
Each O365 subscriber gets cloud-based Office (Word, Excel, PowerPoint, Outlook, and so on), up to five device downloads of the software suite, a private, Microsoft-hosted domain email address, a terabyte cloud drive, and the equivalent of the Lync Enterprise Client Access License. This means every O365 subscriber gets IM, presence, Lync-to-multipoint Lync voice and video, federation with all other O365 users and federated Lync enterprises, and Lync conferencing as part of the $12 per month O365 charge for a single user. PSTN access isn't included today, but Microsoft has indicated that it will be forthcoming, potentially as part of a Skype for Business launch next year. Given that Microsoft is competing with Google to win what I'll call the "cloud franchise" for business productivity software, and users have a voice friendly Google Apps offering via Switch.co, it would seem that PSTN access for O365 is a competitive imperative.
Click to the next page: Building a Cloud Franchise
Building a Cloud Franchise
Just as monopolies or trusts formed in the later stages of the Industrial Revolution, the same is happening in the cloud today (note, I use the word "franchise" so as not to be pejorative). For example, Google owns the cloud search franchise, Facebook and LinkedIn own the social franchise, Sony and Microsoft own the gaming franchise, Netflix and Amazon are competing (along with others) for the entertainment franchise. Microsoft and Google, which also has about 25 million subscribers today, are competing for the cloud franchise in personal productivity software, estimated to be 500 to 800 million seats by 2020. Depending on whether calculating with the Google pricing of $50 per year or the O365 pricing of about $100 per year, the size of this market is potentially anywhere from $30 billion to $80 billion annually. Clearly, the battle is raging in this space.
It is also interesting to speculate as to whether there will be a cloud franchise coming in communications or whether communications will just be part of other solutions. It is clear that Microsoft is moving to position Skype and Skype for Business as a potential communications cloud franchise and that Google is traversing a similar path with Hangouts and Google Voice.
How will Microsoft price PSTN access for O365? Essentially it includes all of the UC value-adds beyond core telephony services in the $12 per month of O365 today. So what would be added is the ability to make and receive PSTN calls and perhaps to route those calls to a non-Lync telephony device. Is there any reason to believe that Microsoft will charge more for this service than the $12 per month for O365? In fact, analysis shows that the underlying cost to deliver this service on top of O365 is probably $2 to $3 per month or less. In addition, that cost decreases as more and more of the interactions move from the PSTN to IP modalities where PSTN rate charges do not apply (think Skype integration, federation and guest access through WebRTC). All of this leads to a conclusion that the Skype for Business for O365 offer will probably be in the $7 to $9 per-month range, or exactly where an initial cloud offer should be based on the Chou models. I personally find it highly unlikely that Microsoft will charge more for just legacy PSTN access than for all of its intellectual value in the rest of the O365 suite.
And that brings us to the question of the cloud's impact for the business telecom-communications-collaboration industry. Impact will vary, of course, but the existing leaders in cloud telephony services will likely feel it first. For vendors like RingCentral, Vonage, 8x8, and other over-the-top services, the news is both good and bad. If they embrace the new pricing models and charge less than $10 per month instead of their current pricing of $25, adoption of their cloud offers should explode, at least in the short term. In the longer term, they will need to incorporate similar UC value-adds such as video and federation that the O365 service includes to remain viable.
At this pricing ($7 to $10 per user per month including UC and PSTN), analysis would show that virtually all enterprises should move to cloud immediately as the cost savings would be huge. However, among current cloud telephony users, we'd probably find a high correlation of cloud VoIP and O365 adoption in the same organizations today (the same factors of desktop Ethernet and high-speed access required for cloud VoIP are the same as those for O365). As such, the cloud services providers may face a challenge in preventing turnover of the existing cloud telephony installed base to Microsoft at enterprises that prefer the full set of Lync services and use O365.
Today, cloud telephony vendors spend upwards of 50% -- and often between 60% and 65% -- of revenue acquiring new customers. While much of this investment is to drive new growth, it is also a result of high churn. Some cloud telephony providers see churn rates as high as 2% per month (24% per year). If revenue drops by 70%, this business/marketing model would be difficult to maintain without significant change (unless the lower pricing decreases customer acquisition costs and reduces churn).
At the same time, Microsoft will have 40 or 50 million O365 subscribers to which it could market its PSTN solution, at relatively low sales and marketing costs. In fact, if only 10% of 50 million O365 subscribers adopted an O365 PSTN service in 2015, the resulting 5 million cloud telephony users will probably dramatically exceed the user base of all other SaaS cloud telephony vendors combined. If the attach rate goes to 20% or 30% adoption, the cloud revolution in business telecom will be well underway.
The inclusion of low-cost PSTN access might be the very item that will compel any enterprise, large or small, to move to O365 for both productivity software and telecom. If Microsoft offers a complete service for around $20 per month that includes Office, Exchange hosting, hosted SharePoint and cloud storage, Skype for Business, and PSTN access ($12 for O365 and $8 for PSTN), many enterprises should find it an attractive offer and a reason to move to the cloud.
Click to the next page: A Communications Tsunami in the Making
A Communications Tsunami in the Making
The upshot? In the next 18 to 48 months to three years, we'll probably see a cloud tsunami coming in business communications and collaboration. Unless you believe the telecom/business communications and collaboration segment is immune to the transformations and impact of the cloud revolution, a change is in the wind. If the cloud revolution does cause the average cost for telephony services (and even including most UC capabilities) to drop to $10 per month or less, the overall customer spend/revenue for this part of the telecom solution will drop by 60% or more. As enterprises adopt the true cloud business model, vendors will have to adjust pricing models -- even for non-cloud, premises-based solutions.
Enterprise communications managers, vendors, channel partners, consultants -- everyone, in other words -- will have to redefine how their value and income is managed through the potential cloud transformation. With standardization and repetitive cost reduction comes less differentiation and fewer opportunities to manage decisions, deployment and adoption, whether inside of a company or as a vendor, channel or consultant.
Emerging technologies like WebRTC promise new and dramatic communications solutions, and the integration of communications into business process is growing, but these need careful consideration and require new skills as well. Each of us should analyze our future strategies in the light of cloud as a transformation, not a technology. Strategies for providing new services, moving up the value chain and seeking out adjacent business expansion are all areas that warrant examination.
Every company in the communications industry, with the possible exception of Microsoft, is going to have to examine both its value model and its customer acquisition model in the upcoming cloud transformation and the availability of true cloud services based on the new business models. Of course, the alternative is to say that none of this will ever happen... or hope that retirement comes soon enough to avoid the potential outcomes.
Share your thoughts on cloud impact and the communications cloud franchise below!
