Vertical integration vs partnering with hardware vendors

Companies that build infrastructure software are often met with the conundrum of whether to sell their own hardware with their software running on top of it, or whether to partner with seasoned hardware vendors instead.

Microsoft’s Azure Stack Edge business is very new in the market and so far they package their edge software into their own hardware. Nutanix also started off by selling it’s own hardware with it’s Enterprise Cloud OS software running on top. Apple religiously ties it’s OS (be it iOS or Mac OS) to the hardware and sells it’s product as a tightly-knit bundle. Now they’re about to embark on taking that one step further by designing and manufacturing their own hardware instead of relying on Intel.

When do you look to partner with hardware vendors and when should you sell a vertically integrated product?

Does this depend on the stage of the product or business?

What are the factors that influence this?

The perks of partnering with vendors

Outlined below are some reasons partnering with hardware vendors could make sense.

Get out of low-margin hardware business

Depending on your company DNA (i.e. whether you are a hardware company by trade or a software company like Nutanix), the low margins of a hardware business may not be worth the investment. If you are a software company, focusing on your key strengths (i.e. software) rather than investing in hardware GTM, field, brand, and expertise will likely be a better investment.

Un-mask software margins

Nutanix initially sold their vertically integrated product with zero-margin on the hardware. As outlined in this article, this zero-margin business, although necessary at the beginning of their product journey, was masking their significantly higher software margins. This causes a huge misconception in the way the business is perceived, leading to much lower trust and valuation.

Widening the obtainable market

People often talk about the total addressable market in the context of a business opportunity. But the number that often times matters more is the obtainable market. This is a subset of the addressable market based on realistic assumptions of what fraction of the market is actually obtainable. In the context of infrastructure software, there will always be a sizable share of the market that has pledged to partner with a specific hardware vendor or is comfortable with their current hardware vendor. Even if your software is better, it is extremely expensive and risky to assume the market will be willing to break these ties. An ecosystem play is more likely to yield dividends. Think of hardware as the ecosystem, that your software must mesh with. This way, your obtainable market will increase by several fold, since it avoids closing out the share of the market that hardware players have their stamp on, and let’s you partner with them and obtain their market in a win-win scenario.

Leverage global sales and channels of hardware partners

Go-to-market is a big consideration for any enterprise partnership. Hardware vendors have global sales teams that are equipped for selling hardware. They also tie up with powerful channels (resellers, distributers, and the like) which you can leverage when you partner with them. If they are convinced about the partnership and integration, they will invest their resources on a solid GTM plan, boosting your chances of success.

What to watch out for before partnering

Several infrastructure software companies (cases in point: Nutanix, Microsoft Azure Stack Edge) start off with the vertical integration, selling their own hardware. However, at some point there is a decision on whether to continue down that path or start partnering with hardware vendors. Keep in mind though, being vertically integrated has it’s perks.

Control

You control shipping deadlines. You control co-ordination between software and hardware release schedules. To some extent, you can influence hardware features based on the exact needs of your product or market. You also don’t have to worry about hardware vendors not sticking to their timelines or letting you down. No doubt this control has several advantages.

Software compatibility

Software that runs on bare-metal hardware must be written in a way that is battle-tested on that hardware. Not to mention, both the software and the hardware will have their own versions and compatibility matrices. Bringing in multiple vendors with their multiple hardware products will not only add to the complexity, but bring in a whole new dimension to the compatibility matrix. This may lead to more months of testing, costly incompatibilities, and ultimately, slower release cycles.

Software optimization

Apple heavily optimizes it’s software for the hardware it is deployed on. Supporting a matrix of hardware devices will almost always mean relinquishing some of that optimization potential in the interest of being generally compatible to all device platforms. Depending on the nature of the product, the vision of the company, and the DNA of the leadership, this may be a problem.

To partner, or not to partner?

The bottom line, as with everything else in software, is that it depends.

It depends on how your business and product fare on the above parameters, and what stage of growth they are each in. It also depends heavily on the strategy of the company. Get it wrong, and it may cost you dearly.. But get it right, and it will definitely open doors.

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