It's almost impossible to run a modern business without the help of computers. Hardware and software make up the business infrastructure on which you run marketing websites, manage email or social-media conversations, build customer databases, and collect credit card payments for orders placed online.
These information technology needs apply to every business, starting with the underwater basket weaving tutorials your neighbor shoots in her garage and running all the way up to the world's largest enterprises. As you'd imagine, there's a massive market for these infrastructure products and services. The top five providers alone can look back at nearly $400 billion in annual sales, and nearly all of it comes straight from business-grade infrastructure operations.
Billion-dollar markets and great investments go together like peaches and herb. Here, I'll explain what makes the business infrastructure opportunity tick and give you three examples of winning business models in this space.
Business infrastructure solutions 101
There are many moving parts in this intriguing market.
To run a business of any respectable size these days, you'll need at least the following pieces of IT infrastructure on hand:
- Servers, for all your number-crunching and data-delivery needs.
- Storage systems, managing your business data.
- An internal network, to let the servers talk to each other.
- An external network, to let your systems talk to the outside world.
- Firewalls and edge routers, keeping your data and systems safe from hackers, viruses, and other attacks.
For a small business, many of these functions can be bundled together. The Web server may depend on its own hard drives for data storage, reducing your entire infrastructure to a single server and an external network connection.
But with growing scale comes new requirements. Your first hacker intrusion will make you yearn for stronger network security and daily data backups. Your first serious sales success can bring that poor machine to its knees, and then you'll need a separate server for the database, another for business analytics, and ... oh, dear, this little network is getting complicated.
Long story short, modern business infrastructures weren't dictated by some all-knowing computing guru. The need for each piece tends to become apparent as your business grows.
So business owners can go through that painful process of discovery on their own -- or look up what passes for best practices today. That way, someone else has already made every mistake for you.
That being said, the intrepid business owner (or, fingers crossed, the appointed information technology director) must make a few fundamental decisions. You see, there are several ways to skin a modern IT cat.
For example, the business can depend on a complete package of solutions from a single vendor.
In this model, you'll order up servers and storage systems from the same company, tied together with the same brand's networking products and protected by its security suite. Naturally, the system software often comes with the very same logo as well.
These days, Cisco Systems (NASDAQ:CSCO) offers a great example of that approach. The networking hardware giant started making inroads into server systems six years ago. Today, its Unified Computing System product line is stealing market share in the server space -- a $50 billion annual market. Moreover, Cisco hopes to grow its security market presence sixfold over the next few years, starting from a minuscule 7% share.
In other words, Cisco really is trying to provide the complete package. Whatever hardware your business might need, Cisco probably sells it. Bundling several pieces together may result in generous pricing discounts, and you always know that every piece of this solution has been proven to work together with all the rest.
One-stop shopping adds peace of mind to potentially lower prices, and you always know whom to call for support. That's one popular way to run the IT show, and Cisco is becoming a big name under that banner.
Best of breed
But of course, one-stop shopping isn't the only option available. Former end-to-end solutions king IBM (NYSE:IBM) is actually moving away from that model right now, choosing to focus on the most profitable parts of a modern business infrastructure package.
To do this, IBM sold off its enterprise storage systems and a popular server line to China-based peer Lenovo (NASDAQOTH:LNVGY). With these low-margin operations under new management, IBM is doubling down on vastly more profitable software and services instead. Big Blue is betting big on the Internet of Things, where it hopes to dominate the markets for fundamental software and data analysis.
It's a painful transition, because IBM is leaving a lot of easy revenue on the table. But in the long run, the new model should lift profit margins while rebuilding the sales platform. Somebody else -- Lenovo, for example, or even Cisco -- is welcome to try to exploit the difficult hardware market.
From the business owner's perspective, it's all about quality control. Don't marry your entire infrastructure to a single brand, and you'll be able to build a complete system out of the best parts available. For example, IBM's data-analysis tools can run on Lenovo servers, connected and protected by Cisco's products.
Thanks to the widespread use of industry standards, the pick-and-choose model works in almost any situation. It might cost more, and you might have to run your own integration tests when the modules don't all come from the same source, but you're free to find a better deal or more powerful tools at any time. The hand-picked quality may be worth the extra cost and more complex systems management profile.
IBM and Cisco have chosen to walk down different paths, but both models work. All-in-one or best-of-breed? It's ultimately a matter of taste.
And of course, there's at least one more option on the table.
Famously, Netflix (NASDAQ:NFLX) used to run its own data centers. Way back in 2009, the company ran its own network cables between servers and network racks. The company may have been quaintly analog in those days, depending on red DVD mailers above all else, but subscribers still depended on Netflix servers to browse the catalog and set up their DVD queues.
Oh, Netflix still runs a skeleton data infrastructure of its own. But the company hasn't added any data center capacity since 2008, despite becoming a digital content delivery powerhouse and more than quadrupling its annual sales. Instead, Netflix moved its business infrastructure onto the cloud computing platform offered by Amazon.com (NASDAQ:AMZN).
That means keeping fewer system administrators and network architects on staff, taking care of much less hardware. Netflix still runs, develops, and maintains a bushel of powerful software, but it's all running on systems under Amazon's wing. Netflix saves money but gains system stability. Amazon is contract-bound to deliver a certain quality of service but otherwise hides most of the systems management process from its customers.
It was a bold move in 2008 but a commonplace strategy today. Amazon is a leader in the cloud computing platform market, though several alternatives have sprung up around it. IBM's Blue Cloud is one option, for example. Netflix was an early poster boy for going all in on cloud services but is hardly alone these days. The company will tell you over and over again that it couldn't have grown its digital streaming services this fast without Amazon's global computing infrastructure.
As for Amazon, the Web Services segment delivered sales of $1.6 billion in the recently reported first quarter of 2015, and that was a 49% jump from the year-ago figure. And Web Services provide a 16.9% operating profit margin, which is head, shoulders, and half a torso above Amazon's overall operating margin of just 3.1%.
How can Netflix save money by using Amazon's platform without gutting the service provider's margins? It's all about economies of scale. Amazon's Web Services division specializes in systems operations on a dizzying global level. These data centers were first built to support Amazon's online retail operation, until it started making sense to sell excess capacity to other businesses.
If Netflix wanted to build its own data centers around the world, it would be a hugely expensive idea. Doable, perhaps, but hardly worth the effort.
So there you have the three major business infrastructure solutions of this day and age: single vendor, piecemeal, or cloud-based. Each has its own unique set of advantages and challenges, its own set of unique use cases, and its own leading provider names.
I'm personally invested in two of these three models, and I keep ogling Cisco shares to perhaps complete the triptych of modern data-center operations someday. All three versions look likely to win big as the Internet of Things rewrites the computing rulebook.
Anders Bylund owns shares of International Business Machines and Netflix. Anders Bylund has the following options: short January 2016 $320 puts on Amazon.com and long January 2016 $320 calls on Amazon.com. The Motley Fool recommends Amazon.com, Cisco Systems, and Netflix. The Motley Fool owns shares of Amazon.com, International Business Machines, and Netflix. Try any of our Foolish newsletter services free for 30 days.