IT and Storage Economics 101, Supply and Demand

In my 2012 (and 2013) industry trends and perspectives predictions I mentioned that some storage systems vendors who managed their costs could benefit from the current Hard Disk Drive (HDD) shortage. Most in the industry would say that is saying what they have said, however I have an alternate scenario. My scenario is that for vendors who already manage good (or great) margins on their HDD sales and who can manage their costs including inventories stand to make even more margin. There is a popular myth that there is no money or margin in HDD or for those who sell them which might be true for some.

Without going into any details, lets just say it is a popular myth just like saying that there is no money in hardware or that all software and people services are pure profit. Ok, lets leave sleeping dogs lay where rest (at least for now).

Why will some storage vendors make more margin off of HDD when everybody is supposed to be adopting or deploying solid state devices (SSD). Or Hybrid Hard Disk Drives (HHDD) in the case of workstation, desktop or laptops? Simple, SSD adoption (and deployment) is still growing and a lot of demand generator incentives available. Likewise HDD demand continues to be strong and with supplies affected, economics 101 says that some will raise their prices, manage their expenses, make more profits which can be used to help fund or stimulate increased SSD or other initiatives.

Storage, IT and general Economics 101

Economics 101 or basics introduces the concept of supply and demand along with revenue minus costs = profits or margin. If there is no demand yet a supply of a product exists then techniques such as discounting, bundling or other forms of adding value to incentivize customers to make a purchase. Bundling can include offering some other product, service or offering that could be as simple as an extended warranty to motivate sellers. Beyond discounts, coupons, two for one, future buying credits, gift cards or memberships for frequent buyers (or flyers) are other forms of stimulating sales activity.

Likewise if there is a supply or competition for a given market of a product or alternative, vendors or those selling the products including value added resellers (VARS) may sacrifice margin (profits) to meet revenue as well as unit shipped (e.g. expand their customer and installed base footprint) goals.

Currently in the IT industry and specifically around data storage even with increased and growing adoption and demand deployment around SSD, there is also a large supply in different categories. For example there are several fabrication facilities (FABs) that produce the silicon dies (e.g. chips) that form nand flash SSD memories including Intel, Micron, the joint Intel and Micron Fab (IMF) and Samsung. Even with continued strong demand growth, the various FABs seem to have enough capacity at least for now. Likewise manufactures of SSD drive form factor products with SAS or SATA interfaces for attaching to existing servers, storage or appliances including Intel, Micron, Samsung, Seagate, STEC and SANdisk among others seem to be able to meet demand. Even PCIe SSD card vendors have come under pressure of supply and demand. For example the high flying startup FusionIO recently saw its margins affected due to competition which includes Adaptec, LSI, Texas Memory Systems (TMS) and soon EMC among others. In the SSD appliance and storage system space there are even more vendors with what amounts to about one every month or so coming out of stealth. Needless to say there will be some shakeout in the not so distant future.

On the other hand, if there is a demand however limited supply, assuming that the market will support it, prices can be increased from what discounts had applied. Assuming that costs are kept inline any subsequent increase in average selling price (ASP) minus costs should result in higher margins.

Another variation is if there is strong demand and shortage of supply such as what is occurring with hard disk drives (HDD) due to recent flooding in Thailand, not only prices increase, there can also be changes to warranties or other services and incentives. Note some of HDD manufactures such as Western Digital were more affected by the flooding than Seagate. Likewise the Thailand flooding was not limited to just HDD having also affected other electronic chip and component suppliers. Even though HDDs have been declared dead by many in the SSD camps along with their supporters, record number of HDDs are produced every year. Note that economics 101 also tells us that even though more devices are produced and sold, that may not show a profit based on their cost and price. Like the CPU processor chips produced by AMD, Broadcom, IBM and Intel among others that are high volume, with varying margins, the HDD and nand flash SSD market is also high volume with different margins.

As an example, Seagate recently announced strong profits due to a number of factors even though enterprise drive supply and shipments were down while desktop drives were up. Given that many industry pundits have proclaimed a disaster for those involved with HDDs due to the shortage, they forgot about economics 101 (supply and demand). Sure marketing 101 says that HDDs are dead and if there is a shortage then more people will buy SSDs however that also assumes that people are a) ready to buy more SSDs (e.g. demand) and b) vendors or manufactures have supply and c) that those same vendors or manufactures are willing to give up margin while reducing costs to boost profits.

Note that costs typically include selling, general and administrative, cost of goods, manufacturing, transportation and shipping, insurance, research and development among others. If it has been awhile since you looked at one, take a few minutes sometime to look at public companies and their quarterly securities exchange commission (SEC) financial filings. Those public filing documents are a treasure trove of information for those who sift through them and where many reporters, analysts and researchers find information for what they are working or speculating on. These documents show total sales, costs, profits and losses among other things. Something that vendors may not show in these public filings which means you have to look or read between the lines or get the information elsewhere is how many units were actually shipped or the ASP to get an idea of the amount of discounting that is occurring. Likewise sales and marketing expenses often get lumped into or under general selling and administration (SGA). A fun or interesting metric is to look at the percentage of SGA dollars spent per revenue and profits.

What I find interesting is to get an estimate of what it is costing an organization to do or sustain a given level of revenue and margin. For example, while some larger vendors may seem to spend more on selling and marketing, on a percentage basis, they can easily be out spent by smaller startups. Granted the larger vendor may be spending more actually dollars however those are spread out over a larger sales and revenue basis.

What does this all mean?

Look at multiple metrics that have both a future trend or forecast as well as trailing or historical perspective view. Look at both percentages as well as dollar amounts as well as both revenue and margin while keeping units or number of devices (or copies) sold also into perspective. For example its interesting to know if a vendors sales were down 10% (or up) quarter over quarter, or versus the same quarter a year ago or year over year. It is also interesting to keep the margin in perspective along with SGA costs in addition to cost of product acquired for sale. Also important is to get a gauge of if sales were down, yet margins are up, how many devices or copies were sold to get a gauge on expanding footprint which could also be a sign of future annuity (follow up sales opportunities). What Im watching is over the next couple of quarters is to see how some vendors leverage the Thailand flooding and HDD as well as other electronic component supply shortages to meet demand by managing discounts, costs and other items that contribute to enhanced margins.

Rest assured there is a lot more to IT and storage economics, including advanced topics such as Return on Investment (ROI) or Return on Innovation (The new ROI) and Total Cost of Ownership (TCO) among others that maybe we will discuss in the future.

Ok, nuff fun for now, lets get back to work.

Cheers gs

Greg Schulz

About Greg Schulz

Greg Schulz is founder of the independent IT industry advisory and consultancy firm The Server and StorageIO Group (StorageIO). At StorageIO Schulz spends most of his time providing real-world advisory, analyst and custom confidential consultancy services to clients ranging from small to Fortune 100 organizations on a global basis. Greg has over 30 years of experience across applications, archive, backup, BC and DR, performance and capacity planning, cloud and virtualization. Mr. Schulz brings the rare perspective of having been an IT customer, vendor and analyst spanning servers, storage, network, hardware, software and services. He has been a member of server, network and storage organizations, including CMG, RAB and SNIA as along with vendor and technology-focused groups. His storageioblog.com is a top 50 must read for IT professionals in addition to being top ranked on twitter. Greg is author of the books “Cloud and Virtual Data Storage Networking” (CRC Press) named the new “Enterprise Tech Bible” in addition to “The Green and Virtual Data Center” (CRC Press) both of which are on the Intel Recommended Reading list for developers. He is also author of the SNIA endorsed study guidebook "Resilient Storage Networks” (Elsevier). Mr. Schulz is regularly interviewed providing perspectives, commentary and opinion on industry activity in addition to presenting at events around the world. In addition to being a multi-year VMware vExpert recipient, Greg has a B.A. in computer science and M.Sc. in software engineering. His top ranked and award-winning blog is http://storageioblog.com and he can be found on twitter @storageio. Learn more at http://storageio.com.

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2 Responses to IT and Storage Economics 101, Supply and Demand

  1. Hawk
    hawk February 8, 2012 at 3:57 pm #

    As a business owner, with a hybrid cloud setup, web servers in the cloud and file servers still on site, the question that has always puzzled me is that decisions I make today are either flexible enough to scale with my business, and won’t put me in a situation where I wish I had waited, or whether or not there isn’t something just around the corner that I need to wait on. Has the storage piece evolved enough to make guys like me comfortable that we won’t get locked into technologies that will provide that comfort zone?

  2. Greg Schulz
    greg schulz February 9, 2012 at 12:30 pm #

    Hello Hawk,

    You bring up some great points, issues and challenges.

    I too am a business owner, granted a small one, however one that deals in a large amount of and dependence on information not to mention its availability and security.

    There are scenarios where some business can go all in, move all data, applications and thus information services to the cloud using a single vendor such as Amazon, Google, Microsoft, Joyent, Etc… Alternatively, some combination for various services and functionality.

    Of course, there are also scenarios or environments where the approach is keep on doing what you have been doing.

    Likewise, there are scenarios where a hybrid approach can or should be used that combine functionality across difference service providers and products, some of which are on and others off-site.

    Part of determining what to keep on-site vs. off-site including file servers is your dependency on information, locality of reference (e.g. how close do you and your applications need to be to the data), network latency and speed, costs, support, facilities and so forth.

    Im using a hybrid approach where I have on-site file servers and local disk based backup with many applications also being local or mobile. However, this also relies on cloud and managed service provider capabilities. For example I use some cloud based file and data services, in addition I have been using cloud-based backup that compliments local backups. In addition, I have master or gold backups that go off-site on removable media (e.g. Removable Hard Drives) that are placed in a safe secure location (e.g. a true DR copy). The reason I do this is in case I cannot get to the cloud, and I use the cloud for confidence and in case, I cannot get to a local or off-site copy.

    The issue of scalability is also tied to the different services, how you and your business will be using those services and functionality.

    Rest assured there are plenty of cloud vendors and pundits who will tell and provide to you numerous reference examples, template, and proof points on how and why you can go all in.

    Likewise, enough others will tell you what is wrong with going to the cloud.

    I prefer the approach of do not be scared of the cloud or managed services, however look before you leap, do your homework, be prepared, ask questions such as what you are doing. In other words, engage in conversations such as this, research, read material, watch videos and webcasts and determine what your concerns are, what you wants and needs are, and then how to address those.

    For some situations you may want to wait, on the other hand, I recommend organizations also avoid waiting instead get some experience, do a proof of concept using some form of cloud service to compliment what they are doing to gain confidence, learn about services, as well as understand what the different challenges along with benefits are.

    Therefore, in summary, yes, there are storage solutions and services that can scale both on and off-site, as well as hybrid appliances that are on-site with support for off-site. On the other hand, depending on what your specific business issues, requirements and needs are along with what cloud services or on-site vendor products you prefer, there will be various caveats.

    As for vendor or technology lock in, that is a risk with rewards if you are able to manage that.

    Vendors often are blamed for vendor lock in and some deserve it, however there is also a shared responsibility of who if you are managing your environment allow yourself to be locked into. You can go the extreme of having an environment that eliminates vendor lock in, however what is the cost of doing that vs. benefit derived for the business. Likewise you can be locked into a vendor however if there is technology and business benefits than those can offset.

    Keep in mind that with cloud today, there is a risk of vendor lock in, however you can also mitigate those risks by doing your homework and being prepared.

    Drop me a note if you want to dig into this some more.

    Hope all is well.

    Cheers
    gs

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