VMware announces grand cloud-SDN plan — but stock plunges 5 percent

VMware has announced a barrage of new products all designed to help retain its leadership in enterprise infrastructure.

However, after making the announcement yesterday, VMWare’s stock dropped more than 1 percent. It dropped another 3.62 percent today, for a total of about 5 percent. That’s much greater than the wider market’s drop of about 2 percent over the same period.

Apparently, the market is unimpressed.

The interpretation by investors, as far as I can tell, is that VMware’s roadmap isn’t enough to counter the slow encroachment by the likes of Amazon, Microsoft, and others on VMware’s high-fee business model — especially when it comes to the cloud.

It’s a tough knock for VMware, because its latest products appear to cover all of the right areas, including the trendy “hybrid cloud” and “Software Defined Networking (SDN).”

What wasn’t to like?

Answering that question requires peeling back the various announcements:

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vCloud Hybrid Service: A defensive play?

First, VMware rolled out a service that offers its customers a hybrid cloud. Until now, VWmare didn’t offer a public cloud component. But on Monday it announced the  vCloud Hybrid Service, a public cloud offering that competes against Amazon, Microsoft and others. The move is a big deal because Amazon and Microsoft public clouds don’t run on VMware’s products, which have so far enjoyed dominance in the enterprise. VMware needs to do something quickly to avoid customer defections.

The hybrid offering, which should be available starting in December, offers a lot of promising features. Realizing that Microsoft, Rackspace, and Amazon have built their own versions of a differentiated cloud (they all have their own flavors offering various features), VMware was forced to pour major engineering investments into its offering to make it competitive. See more about its project Zombie and VMware’s investment in Puppet labs, whose technology is behind the latest VMware offering.

The hybrid product is designed mainly to serve VMware’s existing enterprise customers and is therefore more of a defensive play; not a particularly innovative one.

Many of VMware’s large enterprise customers are looking for a way to build or run new Software-as-a-Service apps on a less expensive and faster public cloud. By offering them a public cloud option, VMware enables enterprises to tap into the advantages of that cloud without having to port to a different platform – like an Amazon or Microsoft. VMware customers can move workloads seamlessly between VMware’s private and public clouds.

Indeed, VMware has built the vCloud so that companies can to move workloads on the public back to their private cloud if they want. This makes it more than a hybrid cloud. It’s also a “reversible” cloud (Diginomic provides a good analysis here), a nod to conservative chief information officers of large companies. These CIOs will want to abandon the public cloud if they find it lacks the performance, security, or compliance standards that they expect.

Gartner analyst Chris Wolf and others are critical of VMware, saying it’s pushing technologies that mostly on top of existing enterprise-grade hardware from its partners.

This enables VMware’s customers to remain, effectively, “laggards” by falling back on their existing data center investments without having to grapple with the newer trends toward higher-load, power-efficient cloud data centers. Meanwhile, Amazon, Facebook, and others are building their cloud offerings from the ground up by optimizing layers on top of commodity servers from companies like Taiwan’s Quanta. Businesses that aren’t reliant on VMware should have an easier time embracing such newer, less expensive technology, leaving VMware dangerously dependent on a high-cost older model. Or at least, so the thinking goes.

Support of Cloud Foundry: One more way to lose customers?

Notably, VMware also included vCloud support for the open-source distribution of Cloud Foundry. This is platform-as-a-service (PaaS) that developers use to build applications without worrying about the underlying infrastructure. Cloud Foundry also runs on Amazon and OpenStack. Supporting CloudFoundry makes sense for VMware: The company is a major stakeholder in Pivotal, the company that operates Cloud Foundry. But what does it mean if VMware’s traditional enterprise customers get to spin up their ambitious new apps on Cloud Foundry with the security of having it all on run on top of an agnostic cloud? Well, they may be tempted later to move away from VMware’s expensive gear elsewhere in their data center. (Update: Industry consultant Ben Kepes has more on this).

This comes at a time when more people see infrastructure being commoditized. Many experts see value moving above the infrastructure layer, to the PaaS level and above, where applications run. VMware isn’t particularly strong there. VWmare’s large ownership stake in Pivotal/Cloud Foundry will help it capture value in PaaS, but only indirectly.

On the good side, the VMWare hybrid announcement featured several other buzzy announcements (there’s a good round-up of these by Ars Technica). These include a desktop-as-a-service offering, which businesses can use to deploy virtual desktops in the cloud to employees without needing any new hardware in their own data centers; and a disaster recovery-as-a-service, which enables customers to automatically replicate applications and data to vCloud Hybrid Service instead of their own data centers.

Unexpected costs?

The VMware cloud offering may incur some unexpected costs. Amazon, Microsoft, and Google all have massive applications of their own that can soak up excess capacity should it occur as they build out their cloud offerings. VMware has no such place to port its excess capacity. It thus may have to eat the cost of its build-out. Building a cloud offering takes time to get it right, and requires significant scale in order to drive costs down, according to Scott Guthrie, the corporate vice president of Microsoft’s developer division. That, in turn, requires a reliable supply chain, and it’s not obvious how VMware will manage it all. Microsoft, for example, has a lot of places it can shift workloads to in order to remain efficient: It runs the upcoming Xbox One video game console, Skydrive, and parts of Bing and Windows Live on Azure. “The challenge with the cloud,” Guthrie told VentureBeat in an interview, “is that you have to get in the game before you can scale.”

(Update: The other cost is the potential fallout with its partners. VMware makes about 85 percent of its revenue through channel partners, and many of them are already serving cloud infrastructure products. VMware was supposed to be handling the virtualization part of things, but now partners may see VMware conflicting with them in the cloud sales channel. More here and here.)

VMware’s software-defined network play: As big as promised?

VMware also announced VMware NSX, the latest step in the company’s efforts to virtualize the data center in the same way that VMware created its business on virtual servers. VMware hopes to steadily remove the hardware that connect and provision servers, replacing it with it with software.

The move brings VMware in full competition with Cisco, which also aims to control the data center with its network offering. (Note that Cisco’s stock did not fall after VMware’s announcement).

The VMware NSX product, available in January, builds upon VMware’s control of the hypervisor, which enables virtual server machines to be built cheaply on top of hardware. NSX allows a company to automate its configurations of servers within the data center. VMware is also offering virtual SAN technology, which for the first time brings flash into the same storage pool as server disks. This follows after VMware’s previous announcement of vCenter Log Insight to track log data from servers. (There’s more good analysis here and here).

Here, VMware is drawing on technology from Nicira, the company it acquired for more than $1 billion more than a year ago. In VMware’s announcement yesterday, it said it is partnering with a number of vendors to help it execute on the NSX plan, including HP, Juniper, and Cumulus. These companies will tie their SDN systems in with VMware’s new network hypervisor. Pricing for this is expected to during the fourth quarter of 2013.

Yet, here again, the question is whether VMware can continue to control the innovation agenda at a time when competitors like Microsoft’s Hyper-V are undercutting it in the area of server virtualization. Reason for market skepticism? The market may be looking at the significant investments VMware has had to make to make all of these announcements, even as the jury is still out on whether it’s all enough to support VMware’s high-cost proprietary software model. Indeed, it all comes at a time when the industry is headed in a different direction: toward open source and more modular plug and play options.

VMware could yet pull all of this off. But the market’s reaction is a sign people still want proof.

(I’m looking forward to discussing some of this on stage at our CloudBeat event in a couple of weeks, where we’ll have major enteprise customers and many of the major vendors attending to debate the best way to move forward with the hybrid cloud.)