On today's Q2 earnings call, new VMware CEO Paul Maritz announced that VMware will offer the ESXi hypervisor as a free download. This will clearly be perceived as a bold decision and one that will likely have some VMware investors reaching for their favorite antacid. In my previous post, VMware's Leadership Change - The Dust Settles, I commented that VMware should take immediate steps to significantly drop prices. To me, an ESX price drop is one of several moves that I think VMware has to make. VMware is increasingly seeing competition and in offering its core hypervisor at no charge, VMware has matched similar offerings from rivals Microsoft (Hyper-V) and Citrix (XenServer Express Edition).
Congratulations are definitely in order because I think VMware has made a good move. Taking their flagship hypervisor and offering it for free positions them well alongside their primary rivals and makes it easier for organizations with limited budgets to transition to VMware-based virtualization. To be clear, the free ESXi offering includes the hypervisor, VMware's virtual machine file system (VMFS), and symmetric multiprocessing (SMP) support. ESXi had been priced at $495 for a server with up to two processors. Most production virtualization deployments include high availability, and if you want to add high availability to the free ESXi hypervisor, you'll need to upgrade to a VMware Infrastructure (VI) Standard license, priced at $3,624 for two processors (with the required 1 year Gold support package). Upgrading to the Enterprise license ($6,958 for two processors [includes 1 year Gold support]) would get you features such as VMotion (live migration) and the distributed resource scheduler (DRS). The reason I'm bringing up upgrade prices is twofold. First, I don't think VMware is doing enough with regards to price drops. Second, since practically all VMware sales include the standard or enterprise VI tiers, the impact on revenues will be practically non-existent.
My colleagues who were at Novell at the time that Microsoft's Active Directory was attempting to take down Novell's eDirectory look back and note that Novell was far too conservative in its attempt to protect revenue streams and ultimately lost to Microsoft (somewhere in the VMware corridors someone is now shuddering at yet another Novell comparison). Giving away your flagship hypervisor is a bold move, but VMware really isn't taking much off the table. VMware's core revenues have long been driven by the features (e.g. HA, VMotion, DRS) it sells around the hypervisor. In my opinion, I think VMware needs to do more than give away its hypervisor if it hopes to hold back competition. Instead, VMware should aggressively take sales opportunities from its competitors. To do that, I think VMware needs to drop the prices of its VI Standard and VI Enterprise packages by at least 33%. Chopping a third off the price of its core packages would make its pricing comparable to its main rivals. For example, the Stratus OEM of Citrix XenServer with high availability is just under $2495 per physical host. A comparable solution from Virtual Iron is priced at $799 per socket. If price is equal, purchasing the hypervisor with the most features becomes a "no brainer."
VMware will say that there's more value in their hypervisor, and it's an enterprise-proven platform. So it's right to say that a higher price is warranted. However, a price that is often 2x-3x higher than competitive solutions is putting IT decision makers in a very tough spot, especially as alternative solutions that provide essential virtualization features such as high availability are emerging. Also, VMware must carefully weigh the potential backlash from existing customers who purchased software at a higher price or who are locked-in to a lengthy enterprise license agreement (ELA). Still, to me the question is not "What's the pricing model that keeps us competitive today and allows us to maximize revenues?" Instead, the question should be "How do we leverage pricing to deny market opportunities for our chief competitors?" If the question is the latter, VMware needs a significant price drop in both their VI Standard and VI Enterprise packages. A large drop would open more doors for VMware and remove price as a factor in many virtualization purchasing decisions. What VMware gives up in short term revenue would be recuperated in long term licensing and maintenance contracts. Virtualization is an infrastructure technology, and as such, has higher barriers to exit - organizations with substantial virtualization investments will not rip and replace it on a whim. So today's game is all about penetrating the significant untapped virtualization market. Yes - VMware's already doing that today, but I believe they could be more aggressive. Lower prices today results in increased market penetration and increased long term software maintenance revenue.
In addition to staying price competitive, VMware needs to hit back against Microsoft. Making ESXi free has effectively placed the hypervisor as a commodity, and as a result VMware has taken Microsoft's bait. VMware now needs to hit back. I alluded to some of the ways VMware can do this in my previous post. We've had quite a bit of internal discussion on this topic at Burton Group as well, and I'd love to hear your thoughts on what VMware's next move should be in their chess match with Microsoft.
A conservative, complacent pricing and licensing strategy will not be enough. Sure, that's the "textbook" approach to running a software company. Microsoft loves the textbook. After all, their competitors historically use textbook management practices in their attempts to take down or hold off Microsoft. How well has that worked? VMware - throw away the textbook. Paul Maritz has the pedigree to write a best seller on software vendor strategy. We remember best sellers because their text often defies conventional wisdom and surprises us along the way. A conservative price drop is a good story, but not a best seller.
Posted by: Chris Wolf