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Xcel Energy has asked the Minnesota Public Utilities commission to approve a 10% rate increase. This matters to everyone interested in cloud computing (I think). Here’s why: A major reason for the request is falling demand for electricity.

The connection isn’t clear?

Early in the days of cloud computing, Nicholas Carr’s ridiculous-but-nonetheless-highly-influential The Big Switch: Rewiring the World, from Edison to Google (W. W. Norton, 2008) proposed strong parallels between the evolution of electrical power generation and the coming evolution of information technology provisioning.

While it was mostly ridiculous  (see “Carr-ied away,” Keep the Joint Running, 2/4/2008), power generation and computing-over-the-internet do have one common characteristic ­– that when lots of customers are able to share the use of large, centrally owned, commodity resources, economies of scale drive down costs.

It’s a great theory. It rests, however, on a number of assumptions, some of which have already been subjected to real-world testing by electrical utilities. For example:

Assumption #1 — providers can get infrastructure for less: Electrical utilities can build and operate power plants more cheaply than consumers or businesses. It’s true, except when it isn’t: Some manufacturers, for example, own their own hydroelectric plants because that’s more economical than buying power, and some consumers are installing solar panels on their roofs, providing a significant fraction of their total need for electricity.

It’s the same in the cloud, only more so, because the raw cost of computing infrastructure is so low, and margins are so thin, that most companies can buy the same stuff cloud vendors rely on at pretty much the same price. A similar equation applies to managing it all.

Assumption #2 — uncorrelated demand: Start with scalability and flexibility. Cloud providers invest in fixed costs so as to decrease incremental costs. That’s called scalability — hardly a new concept in IT. When that’s what IT needs, the economics of Infrastructure as a Service (IaaS) and Platform as a Service (PaaS) don’t work, because, see Assumption #1.

But in many circumstances, what businesses need isn’t scalability, it’s flexibility — the ability to add and shed capacity as the processing load varies. The reason highly scalable cloud providers can sell flexibility to their customers is that they rely on different customers needing the same resources at different times, averaging each other out. While individually their demand varies, in the aggregate demand is predictable.

This only works, though, when customer demand is uncorrelated — when their individual computing loads are unpredictable.

But for a lot of companies, variation in demand is very predictable, the result of having seasonal businesses. The holiday season, for example, affects lots of companies exactly the same way. Their computing demand is correlated, very much parallel to what power companies face in the summer, when everyone runs their air conditioners at the same time.

Except that power companies can handle peaks by buying electricity from each other and from independent generation companies. Cloud providers can’t. They need enough infrastructure to handle correlated peak loads, reducing their economies of scale. How much? The industry is too immature for us to know the answer yet, which brings us to …

Assumption #3 — Growth: Cloud computing doesn’t just shift the cost of infrastructure to providers. It shifts risk as well, namely the risk of excess capacity.

Call it the dark side of scalability, which is that when the incremental cost of processing an increase in volume is small, the incremental savings when processing a decrease in volume is just as small.

Welcome to Xcel Energy’s world.

Imagine a cloud provider whose demand starts to fall. Their fixed costs don’t change, just as Xcel still has to maintain its power plants, even when their capacity isn’t needed.

Unlike Xcel, cloud providers don’t need a PUC’s permission to approve a rate increase. They need the marketplace’s permission.

It’s Hobson’s choice. They either lose money by keeping their rates competitive, or enter a death spiral by raising their rates enough to be profitable, leading to customer defections, leading to more excess capacity, leading to a need to increase rates even more.

Even the biggest providers are vulnerable. Maybe more so, because commodity businesses have razor-thin margins to begin and they’ll have the biggest infrastructure investments.

So to the extent you migrate critical applications to IaaS or PaaS providers, make sure they’re fully portable. And add the steps needed to move them to a different provider to your business continuity plan.

Just in case.

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Entirely Irrelevant but I Just Can’t Stand It department: “High-paying jobs are available for people who learn how to run a key software program used by retail companies, several executives told Gov. Mark Dayton on Friday. And they’d like to see the state establish a training program.” (“IT execs tout Oracle software, ask state to help train workers,” Adam Belz, StarTribune, 10/26/2012).

Want to bet that next week the same characters will be complaining about too-high tax rates and the need to shrink government? And here’s a surprise: One of the companies making the pitch provides exactly this sort of training.

Speaking of retailers …

Not Entirely Irrelevant, but Close and I Can’t Stand It Either department: Just last summer Best Buy’s board of directors paid four of its top executives millions of dollars in “retention bonuses” (“Do retention bribes make sense?” Keep the Joint Running, 7/2/2012).

Here we are, less than four months later, and Hubert Joly, Best Buy’s new CEO, has provided an exit-door instruction manual (“Don’t let it hit you in the glutes on your way out of it”) to three of the four executives bribed by the board to stay.

I don’t know whether Joly made the decision for the right reasons, the wrong reasons, or no reasons at all. It does seem likely the executives whose names are all over Best Buy’s current mess aren’t likely to be the right ones to guide it out of its current mess.

I’m skeptical, though, that Joly is the right person to guide it, either. He comes out of the hospitality industry, and is emphasizing improved hospitality (read “customer service”) at Best Buy as its path to success. And like it or not, (I don’t), customer service seems to have fallen by the wayside as a business strategy.

Consider air travel. Do you choose the carrier that provides the best flying experience? Pay for the first-class upgrade? Or buy the cheapest ticket? Since industry deregulation began, ticket prices have fallen more than 40% according to the Air Transport Association, while the air travel experience has become 247% more unpleasant, according to everyone I know who travels a lot.

Want something more provably quantitative? Economy-class seats are 17″ to 18″ wide. The average male human is 21.7″ wide. Do the math.

More math: Women are 15″ wide on average, so the airlines are causing men to victimize women by overlapping into their seat space, whether we want to or not.

Next consider Pricegrabber.com. It’s quite successful; all it does is let you comparison shop so you can buy from the lowest-price provider that isn’t likely to swindle you.

But this is all business-to-consumer … B2C for we acronym-besotted denizens of the 21st century. How about B2B? My one-word answer: China.

Before the advent of the world wide web, business supply chain theory focused on forming stable, long-term, trust-based relationships with suppliers. Now it focuses on shopping for the low-cost provider.

Some high-service exceptions remain. The Apple Store, for example, is legendary for its superb customer support. Bose has a similar reputation; I experienced its reality personally some years back. Apple and Bose can afford great support through a simple expedient: They don’t have to discount, or at least, they don’t have to discount so much that their margins are squeezed.

Quite the opposite: Apple and Bose products are perceived to be unique. For plenty of consumers they have no direct competitors.

Where is this taking most companies? Into a world where price and convenience are what matter most. The customer experience, no matter how phenomenal, will be the tie-breaker, nothing more. It won’t support much in the way of higher prices or better margins.

Which loops us back to Best Buy and Hubert Joly. If price and convenience are what companies win on, shouldn’t Joly be focusing on making Best Buy the best buy again, like it used to be?

Here’s why this all matters to you as an IT leader: Like it or not, our primary job in most companies is going to continue to be what it  has been for decades — helping to keep incremental costs as low as possible in every part of the business.

All that other stuff — business intelligence, improved decision-making, participation in strategy and so on? That still matters. It still matters a lot.

But it’s the surround, not the core, or at least, that’s how it is and will be everywhere IT supports businesses that win on price and convenience.

Sadly, that appears to be a growing fraction of the total.

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