EMC Bleeds Only One Color…And That’s Green

My colleague Stu Miniman just posted an article about VCE explaining some of the history of the entity and some background on the joint venture. In there was a link to a Chris Mellor article saying that VCE was bleeding out cash. I read Chris Mellor’s stuff all the time because he’s a sharp journalist who typically digs deep and gets good scoop. I like Chris a lot and he’s good for the industry; but I have to call him out on this one.

This article was classic “link bait” and Chris mailed it in. For those that don’t know what I’m talking about, this is a common practice in mainstream media where a writer will crank out some type of incendiary piece just to stir the pot and drive traffic. This is critical to the old world publications because they get paid for traffic. Their advertisers are guaranteed a certain number of clicks or views and to generate ROI for the media buy they have to pump traffic. So the managers of these newspapers put pressure on the writers to crank out articles that will drive page views.

John Furrier over at SiliconAngle explained to me this is one reason he doesn’t have banner ads on his site—i.e. he’s not going for a strategy that is traffic-based, rather he’s trying to compete on speed, quality of analysis and innovation. Don’t get me wrong – Furrier loves traffic, but he understands that competing with link bait is a model that’s been perfected by many and it’s not the future of media. Rather he sees community, in-depth analysis, video and big data as the future of media, which is one reason why SiliconAngle is doing so well.

But I digress.

Why is Mellor out to lunch on this one? Like virtually all of Chris’ posts, there’s truth in what he reports and this article is no different. The fact is that VCE is spending lots of money.  What he totally misses is his conclusion – i.e. that this is a bad move for EMC (and by implication its partner Cisco).

Please allow me to explain.

*Virtualization and cloud computing are completely changing the velocity, agility and economics of IT– permanently. To providers like EMC and Cisco this means they must get faster, simplify complexities and figure out a competitive angle to play in the data center with IBM, HP and Oracle.

*VCE produces Vblocks, a single logical chunk of infrastructure that drops into a virtual data center and supports applications horizontally across the portfolio. It’s a pre-integrated “cloud-in-a-box” that’s specifically designed to address the demand for next generation infrastructures. Rather than sitting on its hands waiting to get its clock cleaned, EMC and Cisco spotted a trend and acted like VC’s for a change—by creating a startup that could get to market fast.

*The concept of VCE is both defensive and offensive. Trust me – if EMC and Cisco didn’t do this they both would have seen share erosion long term and would have had to burn WAY more cash catching up. Instead – VCE was the first to popularize this concept putting pressure on HP, Oracle and IBM to respond and opening new data center opportunities for EMC and Cisco. Intel went along for the ride, because why not and VMware is a leveraged play that EMC controls. It’s frankly a brilliant strategy.

*The confirmation of VCE’s strategy can be seen by watching HP. Donatelli left EMC and his top priority, by far, has been converged infrastructure. Why? Because he totally understands the game. To stay on top you have to converge compute, storage and networking or you will be in trouble. Oracle’s response was also very smart. By bundling in database and applications, Exadata and Exalogic are the mother of all lock-ins. Only IBM is asleep at the wheel on this one and I promise IBM will get into the game shortly or it will be in big trouble. Oh and don’t let me forget NetApp who is right in the act with FlexPod. They totally get it and are out fiercely competing in this space. Hmmm…why all the competition for such a bad idea?

*Chris’ premise that VCE is a bad investment strategy is off base in my opinion. Specifically, he states:

“Viewing VCE as a startup it has not been very successful thus far. If it doesn’t make a profit by the end of this year then perhaps EMC, Cisco and VMware might reconsider things.”

This statement is based on an ‘analysis’ of a Wall Street report that suggests EMC has invested more than $170M to date in VCE which has an implied accumulated loss of $132M.

First – if this were a startup the VC’s would be doing back flips. Why? Because the market is huge and VCE is executing. It’s a multi-billion dollar opportunity that is highly disruptive to traditional data center infrastructure approaches. And it has two whales (EMC and Cisco) sponsoring the deal. The most successful startups go after huge markets, are disruptive, get huge investments and lose money…lots of money before they generate a 10X return for their investors.

Second – What Chris’ analysis misses is that when VCE sells Vblocks, EMC and Cisco take income into its mainstream P&L’s. The whole idea behind the joint venture is that the investors take the benefit into their main businesses. This is critical to get buy in from all the lines of business managers. Specifically, for example, Rich Napolitano and Brian Gallagher, who run EMC’s VNX and VMAX businesses respectively (and their Cisco counterparts). These executives are happy to support VCE because their divisions recognize income from the JV. If they didn’t, VCE would be viewed internally as competitive. But EMC and Cisco were smart in the way they structured this because internal politics can kill deals like this.

The point is Chris’ analysis ignores the broader picture and simply looks at the cost, not the cost/benefit. I’ve stated several times that in my estimate, EMC gets more than 50% of the revenue from Vblocks.

The Bottom Line

The bottom line is EMC is subsidizing VCE to create a long-term competitive advantage. Let me be clear – VCE is a GREAT use of EMC’s cash – way (way) better than share buy backs in my view. In this day and age of risky R&D and super-inflated acquisition prices – VCE is a no-brainer investment by EMC’s Board of Directors.

Further, if EMC wanted to dress up VCE numbers it could but there are probably several reasons it doesn’t including: 1) It would make EMC and Cisco overall numbers look worse and 2) There are most likely tax advantages of structuring the JV as it’s been established.

Now I’m not saying VCE is perfect. I think VCE has spent heavily. It’s had to restructure strategy and messaging to protect its partners. It has been spending money like crazy and has had to get more disciplined. It will continue to alter the operating model. But to conclude that VCE is failing is in my view way off base and at the very least grossly premature.

If I were in charge I’d be watching VCE closely and making sure that the investments were returning dividends. I would be measuring VCE by its pipeline, it’s backlog, its top line revenue, its overall cost structure and its competitive wins. And if I had a combined $48B on the balance sheet (which is what EMC and Cisco have) I’d be more than thrilled to throw a couple hundred million at this initiative.

Because two to three years from now I’ll be printing lots an lots of Benjamins.

 

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