Rate – Risk and Reward
Optimizing Rates
For the sake of this discussion we’ll consider two broad ways of optimizing rates paid for cloud services:
- Usage-based
For example, volume discounts. These are defined and automatically applied by the cloud provider as appropriate for your usage levels. We’ll come onto the importance of influence and accountability in setting KPIs later but we do not factor these usage-based savings into our rate optimization KPIs because we have no ability to influence what cloud resources are actually used.
- Commitment-based
Commitments are made to use or spend a defined level of particular services/resources in exchange for a discount. They can include AWS Savings Plans, Reserved Instances and Organization-wide agreements. As we describe in more detail in our article on Understanding AWS commitments there are lots of options available when making commitments. Combining these options effectively to track usage and balance the risks and rewards requires expertise and purpose built tooling, this is where rate optimization KPIs should focus.
Measuring the Rewards
Commitment performance is often discussed in relation to:
- Coverage (%): represents how much of your usage that is eligible for a commitment discount actually receives one. Coverage alone will not tell you what discount you’re accessing or how much lock-in risk you’re exposed to.
- Utilization (%): the benefit of commitments is applied on an hourly basis. Utilization represents the proportion of time you’ve had usage that is eligible to receive the commitment’s discount. Every hour there is no eligible usage, the cost of the commitment must be subtracted from the savings generated in the hours with eligible usage. The closer you can get to 100% utilization the more efficient the commitment is. As long as the savings made during hours with eligible usage are greater than the costs when there isn’t, the commitment is having an overall positive effect. This means that if you strive only for 100% utilization you will miss out on some opportunities to save. As the discount rates differ by commitment, the utilization level that still has a positive effect also varies.
- Wastage ($): is the cost associated with commitments where their utilization is so low that the commitment costs you more than it saves. This should be minimized wherever possible.
These are all useful measures in making individual commitment decisions but in terms of defining a KPI, you need something that combines them to capture the overall effect.
We use the “Savings Rate”, expressed as a percentage, to do this. For the period under review we sum up all the savings made by commitments and all their costs (e.g. upfront fees pro-rata’d for the period and under-utilization). The savings minus costs gives us the overall commitment benefit. The savings rate shows the benefit as a percentage of your cloud spend without that benefit.
Expressing this as a percentage allows a simple comparison from one period to the next. The more advanced your commitment management approach, the more precisely it will follow your usage changes (up or down) so the higher, and more stable the savings rate will become.
We present these different costs, savings rate and history over time in our portal to clearly demonstrate the overall effect of what we’ve been doing in the background.
Managing the Risks
As we describe in this Understanding AWS Commitments article different types of commitments have different characteristics which affect how they are applied, the nature of lock-in they create and options you have to change your position if your usage changes.
Whether your organization wants to create a KPI around this or not will vary but at the very least it is important to review the “savings rate” you’re achieving against the “commitment liability” you are creating to deliver it. If you’re creating large savings today by making large, long term commitments that tie up cash with upfront payments you’re storing up a lot of future risk that could become very expensive if your usage changes in that time.
In financial terms we consider commitments as an accrued liability. In buying an AWS Reserved Instance or Savings Plan you are agreeing to an expense (whether paid for now or in the future), the value of which will be realized gradually over its term provided you have cloud usage eligible for that commitments’ benefits. In the worst case where commitments cannot be sold or changed or you stop using the cloud entirely you will still incur these costs without any return on that investment. It is therefore very important to monitor these liabilities and particularly the freedom you have to remove them from your balance sheet if needed.
We track this liability and express it first as a total “$” amount. We also provide a breakdown of how this liability changes over the remaining term of your active commitments by commitment type. For example, you may accept a higher liability for a commitment type you could sell on the AWS Reserved Instance Marketplace should you no longer need it. You may also be more comfortable with a high liability held for a short term as it is easier to be confident about cloud usage in shorter than longer term timescales.