Cloud market reflections – a Market-Maker’s perspective

A decade ago, Strategic Blue signed its first customer. This was a trial under the watchful eye of Morgan Stanley’s commodities department. As Strategic Blue has just passed an inflection point in its growth, it’s fascinating to reflect on how the cloud market has matured.

Back in 2010, there appeared to be a strong analogy between the electricity and cloud computing markets, that we felt successful business models from one should work in the other. The two we were interested in were:

  • Market-Maker – like how Morgan Stanley intermediates in various wholesale electricity markets.
  • Supplier – like First Utility, who bought wholesale power from Morgan Stanley and sold it to commercial and domestic retail customers in the UK.

Where it all started

Strategic Blue was designed to be the world’s first trader of cloud contracts, and a supplier to end customers in selected markets. Morgan Stanley was watching, in case the time was already ripe to acquire us and pioneer the trading of cloud.

Strategic Blue signed its first customer back in 2011. AWS had just released “Consolidated Billing”. This was the separation of financial from technical which we had been waiting for. We could take over paying the bill for a customer’s AWS account, without interfering with the technical service from AWS.

Financial intermediation was possible! AWS could meet diverse customer purchase needs by selling to Strategic Blue on standard terms, with Strategic Blue delivering the customer’s commercial needs. Back in 2011, the most obvious non-standard financial customer requirement was to be able to commit to future usage for a discount, but without prepayment. So for that first customer, Strategic Blue “consolidated” their account, secured a contractual commitment to pay a fixed, discounted price for 12 months of specified usage, and made a prepayment to AWS for that usage. This was a win-win-win for all parties:

  • AWS was able to satisfy a customer’s need, at pricing it set, without changing its standard, automated systems.  
  • The customer secured a discounted price, which they couldn’t access without an upfront payment.
  • Strategic Blue made a sensible margin for taking on the cash flow impact, and a measured level of financial uncertainty…in this case credit risk.

Taking on financial uncertainty

We take on financial uncertainty to this day and no other cloud reseller comes close. “Why?”, you might ask. It’s because portfolio risk management makes the uncertainty smaller when taken on by the reseller. This is Strategic Blue’s “unfair advantage”, as we have three former Morgan Stanley executives on our board, plus two more as Head of Risk and Head of Pricing & Portfolio Management.

Back in the early days, we saw true arbitrage. Arbitrage is a set of transactions that together make money without any associated risk. The “win-win-win” example above is not an arbitrage due to the risk of customer non-payment, i.e. credit risk. There is a chance Strategic Blue will lose money. However, if that risk is perfectly hedged with insurance, it does become risk-free and hence an arbitrage. We also use third-party finance to cover the negative cash flow, making the business model scalable. 

Another arbitrage example was that a reseller could consolidate lots of different customers’ accounts under the same “master payer account”, and benefit from the bulk purchase discounts. This arbitrage was particularly huge for costs such as storage, but as the cloud vendor benefitted minimally from this activity, we deliberately didn’t pursue it. This was partly to avoid building a poor reputation with the cloud vendor, but also because it was likely a short-term opportunity. And so it proved to be. That arbitrage no longer exists.

The problems we faced

There were some problems, however, since resolved with varying degrees of elegance, by the hyper-scale cloud vendors. The first problem was how resale was initially rolled out. In an attempt to avoid lots of contract variations, the cloud vendors pushed this problem onto cloud resellers. The reseller would sign standardised contracts with the cloud vendors, and then sign a negotiated contract with each customer. The customer wouldn’t have a direct contract with the cloud vendor.  

For the reseller, this meant sitting on some fairly awful unhedgeable risks, i.e. ones which they weren’t necessarily in a position to manage. They were acting as buffers so that these risks didn’t put the cloud vendors at risk. Examples include: signing up to larger limits of liability than the cloud vendors (quite rightly) were willing to take; signing with vendors under one legal jurisdiction and with customers under another, etc. AWS has since named this model the Solution Provider Account Model, or “SPAM”, to distinguish it from the significantly better (in most cases, in my opinion) End Customer Account Model or “ECAM”.  Google calls it “Privity”. Microsoft has most of the separation in place with its CSP resale program.

The second major set of problems were around billing. As a FinTech engaged in resale, we need to get the billing right. Without accurate billing, the customer will lose trust in the reseller. Many customers only purchase on-demand, the worst complications that need to be unpicked are volume discount tiers. However, AWS led the industry into forward pricing, i.e. fixed discounts for prepaid usage. They didn’t start with a simple “use it or lose it” contract (what became known as standard “heavy utilization” reserved instances) but rather sold strips of options. These options, later termed “light and medium utilization reserved instances”, exchanged prepayment of an option premium, for the right, but not the obligation, each hour for 12 or 36 months, to use an on-demand instance at a discounted price. When this was originally rolled out, the billing files showed cumulative usage, without the hourly granularity. It wasn’t until the rollout of “detailed billing files”, the precursor to the current “cost and usage reports”, that customers could fully reconcile their bills.  

For Strategic Blue, as a reseller who wasn’t turning cloud usage on and off, and worse, usually had multiple customers’ accounts under one master paying account, this ran the risk of overcharging customers. This would break trust, and could lead to a poor reputation. We, therefore, chose our customers carefully during that period and waited for the detailed billing file to arrive. We’re now approaching the 10 year anniversary with some of those early customers.

Advanced Resale

These early problems have been resolved, so perhaps I should describe the current state-of-the-art for financial intermediation of cloud. I’ll use Amazon Web Services (AWS) as they are the most advanced in their enablement of what we call “Advanced Resale”.

Strategic Blue takes responsibility for paying for a customer’s usage, either one usage account at a time, or hundreds of accounts at once by taking ownership of just the master payer account. Either way, the terms and conditions that apply to the customer’s usage accounts remain unchanged and remain directly in place with AWS. All we’ve done is replace the financial arrangements around commitment, pricing, billing and payment, using a reversible process. The customer continues to own the accounts that hold their data and systems, and still enjoys the same account management and support arrangements with AWS. The only operational change is that commitment, pricing and billing queries are now handled by Strategic Blue. The only access to data that Strategic Blue has is to usage, commitment and billing information.

Strategic Blue is able to sign deals with a customer that can look as similar, or as different, to deals available directly with AWS. We benchmark pricing for these deals to make sure that we honour our contractual guarantee to always offer a better price than direct equivalent terms. We are then free to strike a range of standard deals with AWS that can be far more complex than 99.9% of customers would be willing to handle. This results in significant mismatches between the costs that Strategic Blue incurs each month, and those that need to be billed to the customer under their advantageous deal.  

Our developers have built and maintain a platform that regenerates AWS-native format cost and usage reports (“CURs”) from the main CUR we receive from AWS. We split out groups of AWS accounts by customer, or by department, and produce a CUR file that can be ingested by any of the many self-service tools in use by AWS customers. Our deals are presented inside those as “synthetic” reserved instances and savings plans. This means that we don’t disrupt our customer’s established financial operations (“Cloud FinOps”) processes. Where customers aren’t already using one of these third-party tools, we also provide highly tailorable “Clarity Dashboards” built on Amazon Quicksight, that use these regenerated CUR files, with different versions designed for technical and financial stakeholders.

The above capabilities can be more attractive to enterprise customers as they often have enterprise agreements in place with AWS and may have special pricing arrangements in place with AWS or another reseller. The elegance of the solution created by AWS and Strategic Blue in concert is that we still deliver the same value, but through an engagement model we call “Outsourced FinOps”.  

Outsourced FinOps

With Outsourced FinOps, we leave the customer owning the master paying account, and thus responsible for making payment to AWS, but based on how Strategic Blue has chosen to buy. i.e. we control the purchase of Reserved Instances, Savings Plans and more. This means that Strategic Blue pays the customer, not AWS, shortly before the AWS bill is due. As the customer still owns the Master Paying Account and is still paying AWS directly, Strategic Blue doesn’t receive any form of reseller discount to improve the economics.

Whilst now in use for much smaller companies, Outsourced FinOps was originally designed for multinational conglomerates. This is because conglomerates want to minimise their cloud bills by aggregating together their purchasing, but don’t want to fall foul of transfer pricing issues between subsidiaries under different tax regimes. By deploying Outsourced FinOps, Strategic Blue enables a holding company to pay a reduced cloud bill, while having each subsidiary treated as a separate customer by Strategic Blue, thereby solving the potential audit issue.  

Indirect Outsourced FinOps

The other type of company that wants to accurately and fairly divide a cloud bill is other cloud resellers. Strategic Blue’s “Indirect Outsourced FinOps” engagement model is the first demonstration of cloud trading between financial intermediaries. It’s a bit like Morgan Stanley trading electricity contracts with Goldman Sachs, enabling each to better manage the financial uncertainty they have taken on from their customers. Other cloud resellers are able to engage with Strategic Blue, in the manner outlined above, such that they are offering the benefits of Advanced Resale to their customers, but Strategic Blue is taking on some, or even all, of the financial uncertainty that comes with that.

The future of Cloud

Back in 2013, Strategic Blue jointly hosted a debate on “Is there a future in cloud futures?”. 6fusion, who were developing a cloud exchange, and ourselves invited 30 respected cloud industry thought leaders to meet in San Francisco, and a lively discussion ensued. The general consensus was that in 10 years’ time, the cloud market would be sophisticated enough for “over-the-counter” trading to have developed, but that exchange trading in a standardised way would still be in the future.  

I believe that Strategic Blue has shown them to have been absolutely correct. Funnily enough, one of those thought leaders, Dr. Vince Kellen, then CIO at University of Kentucky, is now CIO at University of California San Diego, and is now both a long-standing customer and also a partner through an initiative called CloudBank Research.  

CloudBank can be thought of as a cloud “supplier” to university researchers. They support these “retail customers” in adopting cloud, and handle the wholesale procurement of cloud on behalf of the researchers, and the National Science Foundation (NSF) who funds their research and cloud usage. Strategic Blue sits as a core enabler to CloudBank, handling all the billing complexity, and managing capacity planning risk across a diverse portfolio of researchers’ cloud usage, to make the NSF’s research dollar stretch as far as possible.

I said at the start that Strategic Blue had just passed an inflection point in its growth. We tripled our cloud spend under management in the last financial year and have pretty much every metric accelerating in the right direction. I’m not expecting that growth to slow down anytime soon. I’m really excited about the next 10 years at Strategic Blue, now that cloud really can be traded like a commodity.

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