Disclosure: I am long CTXS. (More...)
Over the past several years, tech gurus have been touting cloud computing and Software as a Service (SAAS) as the next big innovations that will change the world and people's lives. Many cloud computing and SaaS companies sprang up swiftly, hoping to seize the first-mover advantage and become the leader of these promising industries of tomorrow. After several years of natural selection and elimination, VMware (VMW) seems to have emerged as the leader along with several big competitors following closely behind: Microsoft (MSFT), Oracle (ORCL), SAP AG (SAP), Salesforce.com (CRM), and Citrix (CTXS).
Many SaaS providers have been trying to solve one major issue for years: Most virtual applications or desktops are still not completely hardware and O/S independent. In many cases, a service provider provides its customers only a limited list of applications developed for a specific operating system. In other cases, some virtualized applications require subscribers to have a specific operation system running on their client-side devices. VMware has been leading the industry in solving this problem. In late 2011, VMware launched a project for the development of a new technology/product called "AppBlaster" that was intended to address this challenge. VirtualizationTeam's VMware End User Computing CTO Scott Davis said in an interview, "It is a technology that will enable users to access any application on any operating system as long they have a browser that supports HTML5." Now, that is surely an exciting idea for many people. Imagine you are traveling to a meeting in South America and find that their computers run on Linux operating system but you want to use MS Excel. No problem: Log into AppBlaster online and-boom!-start using Excel on that computer. If you travel to China and want to use ArchiCAD (architecture-designing software that runs on Apple's MAC operating system) but the only electronic device available to access the Internet is your friend's tablet, running the Siebel operating system, no problem: Log into AppBlaster online and-boom!-start using Architect on that tablet. AppBlaster made a big ripple in the market and was hotly discussed in many 2011 and 2012 articles because the experts really believed that this revolutionary technology could be quickly adopted by end users and bring huge revenue to VMware. Unfortunately, after more than a year, the project seemed to go nowhere and faded from the stage.
VMware is certainly not alone in pushing the revolution of virtual applications; it faces vigorous competitions from big players. Citrix has been working on a flexible application accessing solution for its customers. One product aimed at achieving that goal is XenClient. Nonetheless, from what I can see, the product currently seems to be limited to Windows O/S and x86-based hardware. It is unclear if it allows end users to access applications written for Linux, Apple, or other operating systems from any end-point device. Another cloud computing and SaaS giant, Salesforce.com, is offering end users access to applications in various back-end systems through its Salesforce Platform. However, the solution seems limited to creating "new" applications, accessible through various mobile devices by using Salesforce web service APIs to extract data from server-side business applications that are built by Microsoft, Oracle, SAP, and so on. Salesforce does not have the capability to let end users freely access any existing applications written for Windows, Linux, Unix, MAC, or other OSs from any type of client device.
Ironically, the biggest threat to VMware may actually come from outside these aforementioned big cloud computing and SaaS names: Sphere 3D(Toronto Stock Exchange Symbol: ANY), a fledgling company with proprietary cutting-edge technology, is emerging quickly and posting a serious threat to the major players. The company may have completed the improbable task of creating a truly hardware- and platform-independent remote application accessing. The company offers two major products: Glassware 2.0 for Enterprise and VDI Live for consumers. In the company snapshot on Sphere 3D's website, the company stated:
Through our technology, consumers experience the full features and functionality of digital products instantly on their screen, without the inherent time, space and compatibility issues of downloading software onto their system. … You can access and data from any cloud-enabled device …. Legacy software can quickly be ported to a cloud environment without the need for any customization. Businesses can quickly access more, or less, resources based on your business' requirements. No need to pay for excess infrastructure and yet you have immediate access to additional resources when you need them.
Compared to VMWare and other companies' solutions, Sphere3D's solution seem to deliver higher performances and more complete features for the applications served. In the Q&A page on its website, the company said:
There is no start button, no additional overhead in the data center. There is no virtual desktop to log into and there are no limitations of a windows only environment. We give you access to the software and all the native hardware required for it to run in its optimal state. We will not introduce software that does not have 100% of its native capabilities. Our platform allows for the efficient delivery of full functionality.
In addition, Sphere3D's solution seems to be much cheaper. In the company's December 14, 2012, IPO filing, the company said:
These multibillion-dollar corporations have recognized the business requirement of providing access anywhere, anytime and using any device and are providing wide-ranging enterprise solutions to address the problem but at a price that only large businesses can afford and with limitations on the number of users, type of software, availability on multiple devices as well as a great deal of complexity in their deployments. Sphere 3D has developed a solution for end users that will enable small and medium businesses (SMB), as well as large enterprises, the pricing and technical flexibility required for adoption of new technologies.
A research report by IT industry experts at Frost & Sullivan, available for download on Sphere 3D's website, backed up the company's claims. The report gave detailed analyses of the market and the company's products, technologies, and competitive advantages. Of course, the best proof of the superiority of the Sphere 3D's technologies and products comes from the revenues the company has earned from these technologies and products. On that front, the company has gained a great deal of steam lately.
In May, the company signed a definitive agreement with Corel Corporation ("Corel") to act as Value Added Reseller and Distributor for Corel Office and Corel PDF Fusion. Sphere 3D will electronically distribute Corel's office applications to end users in one of three formats: a standard desktop version, a Virtual Desktop Instance (VDI), or mobile software versions powered by Sphere 3D's Software Virtualization solution, Glassware 2.0TM. The latter two formats apparently were new, created specifically for Corel by Sphere 3D. According to Corel's LinkedIn page, the company currently has more than 100 million users for its software. As with most commercial software, Corel releases new versions every one or two years, and many users will likely upgrade as new versions become available. If Sphere 3D gets exclusive rights to distribute Corel's software in all formats, potential revenue could be millions a year, even if Sphere 3D just charges several dollars per distribution. In the press release, it is unclear if Sphere 3D has exclusive rights to distribute the standard desktop version. To be safe, I would assume that it does not. However, for VDI and mobile versions, it appears that Sphere 3D will be the exclusive distributor of because the company was brought in by Corel for and because these formats were powered by Sphere 3D's Glassware platform. Revenue from just these two formats can be substantial. According to research by Tata Consultancy Services, 19% of large U.S. companies' applications are currently on the cloud. Of course, the adoption rate for specific software can be quite different from the national average. Further, it is unknown at this point how much Sphere 3D plans to charge Corel users per month for using the virtualized versions of Corel software on Glassware. Assuming that Sphere 3D can get 6% of Corel users (more than five million) to convert to the virtualized version of its software and charge $1 per month per user, Sphere 3D will get more than $60 million a year just from this one contract with Corel!
In July, Sphere 3D announced a partnership with Overland Storage (OVRL). According to the news release, the two companies have jointly developed a complete cloud solution using Overland's storage solutions and Sphere 3D's Glassware virtualization solution. CEO of Sphere 3D Peter Tassiopoulos explained: "This partnership gives us access to their [Overland] robust channel of thousands of resellers in 60 different countries and an installed base of more than 450 thousand." Pursuant to the agreement, Overland will pay Sphere 3D an upfront fee and a royalty on future sales of licensed Sphere 3D technology. The details (e.g., percent of sales or dollar price per unit) for sales of Sphere 3D technology are unknown, but considering the huge reseller and user base, the revenue to Sphere 3D can be huge as well. A strong clue is Overland CEO Eric Kelly's actions: Kelly felt so bullish on Sphere 3D's future that he bought more than 1.85 million Sphere 3D shares to become Chairman of Sphere 3D (per the agreement, he had to own 1.85 million or more common shares to keep his seat). The next several months will be an interesting time for the company.
If history is a guide, a cloud computing or SaaS company with good technologies and products will see the number of customers and revenue growing exponentially once it gets the first couple of clients and word starts spreading. Before long, Sphere 3D may eat market shares of the giants quickly. The threat is especially frightening for VMware because Sphere 3D's technology directly challenges VMware's core competencies. Sphere 3D's architecture and licensing model of à la carte and hot-swappable hardware, O/S, and applications servicing seem to be much more flexible and cheaper for enterprises. As Barb Darrow pointed out in her GagaOM article published in July 2013, "VMware's bread-and-butter hypervisor technology is a now a low-cost commodity. Its licensing/pricing model makes much of its other software more expensive than good-enough alternatives." In the company's own 10-Q report, VMware said
The markets for our software solutions and IaaS offerings are characterized by rapid technological changes, changing customer needs, frequent new software product introductions and evolving industry standards. The introduction of third-party solutions embodying new technologies and the emergence of new industry standards could make our existing and future software solutions obsolete and unmarketable.
Sphere 3D's solutions and new technologies may be exactly what VMware was talking about in this statement.
VMware has to find a good response to this formidable new competitor's threat ASAP, but it is uncertain whether VMware will be able to do so. As one can see from VMware's financial reports and its management's last forecast, the company's growth rate has dropped and, going forward, will probably drop further. As a thousand-pound gorilla, the company no longer has the ability to come up with major innovations frequently, drastically overhauling its technologies/framework to meet the market's ever-evolving needs. Moreover, in the case of Sphere 3D, because it has filed patents for its proprietary technologies, VMware may not be able to put good features of Sphere 3D's solutions into its own products even if its R&D team is able to mimic that company's features. Therefore, VMware may be forced to use less effective and more costly workarounds to avoid violating Sphere 3D's patents. One alternative for VMware to diffuse this threat is to adopt Bill Gates' famous strategy: "If you cannot beat them, buy them." VMware itself is famous for this strategy as it has acquired numerous companies in the past. Of course, it is unknown whether Sphere 3D's founders are willing to consider selling the company right now. Assuming they are willing to give away their years of hard work for several hundred million dollars, it may be a money well spent for VMware to further strengthen its technologies and product offerings to spare a lot of trouble and risk down the road.
The investment implication of all the above is that going forward VMware may not be as a good investment as it has been over the past several years. It has to carefully overcome a lot of challenges in the fast changing industry in order to stay on the top spot. New comers such as Sphere3D offer bigger potential returns for investors who are willing to accept higher risks.
Additional disclosure: I am also long Sphere 3D (Toronto Stock Exchange Symbol: ANY).No content published as part of this article constitutes a recommendation that any particular investment, security, portfolio of securities, transaction or investment strategy is suitable for any specific person. I am not an investment adviser, and the content contained herein is not an endorsement to buy or sell any securities. Your investment decisions are made entirely at your discretion. By reading my article, you acknowledge that I am in no way liable for losses or gains arising out of commentary, analysis, and or data in this article.