Amazon's cloud threatens to become Tech's Wal-Mart

Amazon's Jeff Bezos
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Jeff Bezos used a hefty portion of his annual shareholder letter last week to tout the rapid growth of Amazon Web Services and how much it resembles his company's dominant e-commerce site.

He closed the second paragraph saying, "AWS and Amazon retail are very similar indeed."

For much of the technology industry, nothing could be more frightening.

The retail graveyard that followed Amazon's ascension is long and deep, filled with mom-and-pop shops (the ones that Wal-Mart didn't kill), retail giants like Borders and Circuit City and scores of e-commerce start-ups that couldn't compete on price or catalog size. 

Now, an increasing number of software companies like Hortonworks and Tableau Software are for the first time naming Amazon as a competitor in their financial statements. 

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"Amazon should scare everybody," said Tien Tzuo, CEO of subscription software vendor Zuora, which is turning to AWS for an increasing number of services including a big data processing engine called Elastic MapReduce. "If they decide to go into your business, they have an unfair advantage."

Bezos's famous quote, "Your margin is my opportunity," rings true for everything he touches. Twenty-two years into its existence, the company's operating margin is 3 percent, meaning 97 cents of every $1 in revenue goes to pay for the cost of goods sold and running the business. 

Investors have been fully on board, lifting the stock 118 percent last year and valuing the company at $285 billion.

The 4,100-word shareholder letter—required reading for tech executives and investors—starts by noting that Amazon in 2015 became the fastest company to top $100 billion in sales and that AWS is on pace to reach $10 billion in annual revenue quicker than Amazon.

AWS results

Quarter Sales Operating margin
Q4 '15$2.4 bln29%
Q3 '15$2.1 bln25%
Q2 '15$1.8 bln21%
Q1 '15$1.6 bln17%
Q4 '14$1.4 bln17%
Q3 '14$1.2 bln8.4%
Q2 '14$1 bln7.7%
Q1 '14$1.1 bln23%

Source: Source: Amazon

Since launching AWS in 2006 with technology that allowed businesses to offload their data storage and compute capacity and rent it all via the Web, Amazon has added products like databases, analytics software, developer tools and application monitoring services. It's also dropped prices 51 times.

Among the products Bezos cites in the letter is a database engine called Aurora that he says has up to five times better performance than the typical implementation of an open-source database called MySQL and is "1/10th the price of the traditional, commercial-grade database engine."

For another type of high-speed database, Amazon's product DynamoDB competes with MongoDB, a start-up valued at $1.6 billion. Kelly Stirman, MongoDB's vice president of strategy, said plenty of customers use his company's product instead of Amazon's because MongoDB also runs on clouds from Microsoft and Google as well as in data centers that clients operate themselves. 

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Stirman sees plenty of room for software vendors to build services that utilize AWS and make the platform better for businesses that want more than storage and servers. Still, he recognizes the potential threat as AWS continues to grow.

"Every software company needs to view them as a partner and potentially a long-term competitor," Stirman said.

In the $23 billion cloud infrastructure market, AWS ranks first with 31 percent share, followed by Microsoft, IBM and Google, according to Synergy Research Group. Analysts predict AWS revenue will more than double by 2017 to $16.5 billion, based on data from FactSet. In their efforts to catch up, Microsoft and Google have been offering start-ups $100,000 to utilize their offerings. 

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Amazon recognizes the importance of outside developers. 

The way the Seattle-based company sees the market, AWS provides the guts of computing and storage and looks to many innovative partners to provide valuable technology on top. Like in retail, Amazon wants to offer the widest directory of products at the best prices for customers, and not everything can be created in-house.

"Building and maintaining a healthy ecosystem is one of the key factors in the continued success of AWS and we're excited to work every day with our tens of thousands of partners," said Ariel Kelman, vice president of worldwide marketing at AWS. "We see a huge opportunity for multiple companies to be successful in every area of the ecosystem and to meet different needs in the market." 

But Amazon has a history of wreaking havoc as it expands.

The early growth of AWS came at the expense of traditional hardware vendors like Dell, Hewlett-Packard, EMC and Cisco, because companies moving to the cloud no longer needed to own and operate their own expensive gear. Rackspace, a one-time competitor in cloud infrastructure, has returned to its roots as a provider of customer support, in large part because the price cuts from AWS were impossible to match.

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Meanwhile, AWS is a tremendous boon for emerging companies that can now get off the ground without having to spend millions of dollars on hardware and maintenance fees. Again, the retail analogy resonates. Improving life for customers comes at a steep cost for competitors.

"If you're an infrastructure cloud start-up, you have to have a story for investors that answers the question, `What if Amazon did x?" said Jerry Chen, a partner at Silicon Valley venture firm Greylock Partners. "You can benefit from all the goodness around price cuts and savings that Amazon gives you but produce services on top that add value."

Greylock is an investor in database vendor Cloudera, which competes with AWS's Elastic MapReduce. Cloudera's top rival Hortonworks is publicly-traded and spells out the risk to investors.

In its latest annual report filed in March, Hortonworks named Amazon as a competitor, a change from a year earlier, when the company wasn't listed. Similarly, Tableau and Qlik Technologies, providers of data analytics technology, listed Amazon as a competitor for the first time in their filings. AWS sells a business intelligence tool called QuickSight that vies with Tableau and Qlik as well as start-ups including GoodData and Birst.

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It's still early. Pacific Crest Securities analyst Brent Bracelin, who has buy recommendations on Tableau and Qlik, hasn't seen QuickSight gain traction. The AWS offering poses "more of a headline threat than an actual threat," he wrote in a March 20 report.

John Vrionis, who invests in infrastructure companies at Lightspeed Venture Partners, said AWS's explosive growth coupled with its ability to consistently reduce prices is a powerful force.

Yet while Amazon is an ever-present threat, start-ups still have certain advantages, Vrionis said. For one, customers don't want to be locked into AWS, so they're looking for technology that can help them wherever they operate and as they move data to other clouds or into their own data centers. 

Additionally, much of the top engineering talent is not at Amazon, but rather at smaller companies focused on innovating and being the best at one thing.

"For us as investors, the gazillion dollar question is, does this put all of our enterprise companies at risk?" Vrionis said. "In some ways, yes and in some ways, it creates a ton of opportunities. It's impossible for them to be best of breed in every one of these new categories."