How Amazon plans to crush the cloud competition

Mahaney on Amazon's cloud computing price war

Forget Amazon the retailer — the company's biggest growth opportunity is probably the cloud.

CEO Jeff Bezos is applying his time-honored strategy: Slash prices and launch hundreds of new products to win market share.

The strategy seems to be working: Amazon Web Services (AWS) now accounts for around half of all cloud computing platform sales across the industry, according to RBC Capital Markets analysts Mark Mahaney.

Competitors — including biggest names in tech: Microsoft, Google, IBM, Oracle and Rackspace — all have lost market share to AWS, as Bezos continues his price war, known in the industry as "The Race to Zero."

It's this that makes "AWS re:Invent" — the company's developer conference in Las Vegas, which kicks off on Wednesday — arguably the cloud computing industry's most important annual event. Analysts and investors will be watching closely for any indication of how aggressive Amazon plans to be with pricing.

"Everyone is always very focused on whether or not they announce minor price cuts or major price cuts," said Barclays analyst Paul Vogel. "The pricing environment seems to have moderated a little bit so it doesn't seem to be competitive in nature, so it's really just a question of how aggressive Amazon wants to be in terms of pushing the envelope."

Amazon has slashed prices 49 times since launching the business in 2006, including several cuts this year. On the latest earnings call, CFO Brian Olsavsky told analysts to expect more. Piper Jaffray analyst Gene Munster expects Google Cloud Platform, IBM Cloud, Rackspace and Oracle to become less relevant players in the cloud computing or Infrastructure as a Service (IaaS) wars and for Microsoft Azure to trail AWS in the No. 2 position.

"Oracle would say they are the biggest threat because they're cutting pricing, but Oracle came out with a significant reduction in pricing, we're talking about a 90 percent price cut. AWS didn't lower their pricing and they still gained market share, so it's not just about pricing," said Munster. "Probably the ones most likely to chip away could be a Google or a Microsoft, but the numbers have not suggested that, the numbers AWS continues to gain fractional market share," said Munster.

"It is not just price: they seem to be leading in terms of product innovation," said RBC's Mahaney.

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But Amazon's success hasn't been in primarily winning enterprise customers. Rather, it's largely been start-ups.

"Amazon's power alley in terms of customers has been small- and medium-size enterprises. Frankly, a lot of the privately funded unicorns are major AWS customers. As they now try to build up the capabilities to go into large enterprises, that's unproven. Whether Microsoft and Google have more success in that, it's a jump ball," said Mahaney.

A big focus at AWS Re:Invent will be new products and partnerships aimed at capturing and servicing that enterprise market. Expect customers and partners to join AWS SVP Andy Jassy and Amazon CTO Dr. Werner Vogels in their keynotes to talk about how they leverage the platform and unveil new products. "It's historically been a pretty generic platform, it's becoming more advanced and that is, I think, gonna be the substance of what the re:Invent is," said Munster. "How they're tied in with other industry players is gonna be a theme."

Amazon counts Samsung, NASA, Google-owned Nest and Netflix among its enterprise clients and has continued to add services, software and apps on top of its existing infrastructure to allow for more robust offerings. Example: Its recent acquisition of Elemental Technologies, which provides software to help media companies reformat and deliver live and on-demand video to multiple screens over the Internet and mobile devices. "Netflix has been a huge customer for a long time, so clearly they have had some success with bigger companies and they are offering what they need," said Vogels.

Analysts will be watching for more information on two new initiatives first reported by The Wall Street Journal: A new big data product, which could help AWS lock in customers by hosting more of their data on its service and a Rackspace partnership to help enterprise customers migrate cloud computing from their own operations to AWS. "Amazon has been coming up from this SMB side, so what the Rackspace partnership could allow Amazon to do is better penetrate going upstream, up into that market," said Mahaney.

Another big focus will, of course, be security. Amazon is expected to unveil new tools aimed at alleviating growing fears about cloud security, once again, aimed at persuading enterprise customers to sign up. "There used to be this concept that nothing is secure unless it's on premise," said Munster. "I think that companies' willingness to put and trust the cloud, I think that has increased."

Underlying the entire conference, Amazon aims to educate developers about new tools, since growth depends in large part on developer buy-in. "You learn AWS at your first company, and then you see a shiny company and you jump to that company and you bring AWS with you," said Munster.

BGC Partners Analyst Colin Gillis has estimated that AWS will generate $11.8 billion in revenue in 2016 and operating profit of $2.36 billion based on a 20 percent profit contribution. "AWS is the biggest wild card in Amazon's valuation and the reason is that the growth rates are significantly higher than the retail growth rates and the profit margins are higher and it's a small part of their business today," said Munster. "If you think about what could potentially have the biggest impact on the stock over the next five years, it's most likely AWS."

Bezos is not scheduled to speak at AWS re:Invent, though he is sure to be watching closely.

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