CapEx vs. OpEx: Revisiting On-Premises vs. Cloud Computing

I wrote the original CapEx v. OpEx blog back in 2018. You may be asking yourself; why are you revisiting the topic – what’s changed? In reality, the same arguments are still valid; the economies of scale for utilizing the Azure cloud platform and its constant technology improvements which also highlight the benefits of an cloud subscription solution which also utilizes the operational expenses argument from the original blog.

The new development is the COVID-19 pandemic and how that has effected the corporate work environment. With so many employees that have transitioned to a hybrid or remote environment, the ease of access, higher levels of data security, and obvious cost benefits in the cloud have only made the move to the cloud (and the OpEx model) a much higher priority for CFOs.

Can you save money by moving from on-premises data centers to the cloud?

Many organizations continue to ask themselves: can you save money by moving from on-premises data centers to the cloud? How much can you save, and are there additional advantages to moving to the cloud?

These important questions have been hotly debated by Chief Financial Officers (CFO), Chief Technology Officers (CTO), Chief Information Security Officers (CISO), and CEOs over the last several years.

Cloud vendors have offered evidence that moving to the cloud has obvious cost advantages over staying on-premises. Despite this, several industries have been slow to agree to the move. The main reasons include cost, overall control, security, data migration costs, and the time it would take to complete the migration. In this blog, I will focus on the capital expenditures (CapEx) versus the operational expenditures (OpEx) arguments.

READ MORE:  Data Has Value, but also Risk – Get Rid of What You No Longer Need

Defining CapEx and OpEx

CapEx: Purchasing an asset (factory, computer system, company car) is considered a capital expenditure. It requires payment (or financing) for the entire asset – upfront, and the cost becomes an entry on the company's balance sheet, depreciated over some period of time. This fixed asset strategy also includes other costs such as upkeep, insurance, and personnel tied to the asset’s use. On-premises computer systems, computer storage, and software are all examples of capital expenditures. Usually, they are purchased with money upfront, so the initial capital outlay can be significant.

However, fixed assets can also be depreciated over time to spread out the asset's cost over its useful life. Depreciation is helpful for capital expenditures because it allows the company to avoid a significant hit to its bottom line (taxable revenue) in the year the asset was purchased but, the initial large capital outlay is still required.

OpEx: These expenditures are associated with purchasing services for a planned period of time, for example, subscribing to a cloud tenancy for 1-3 years. All OpEx payments during this period count against the income statement and do not directly affect the balance sheet. Some examples of OpEx include leasing software, consulting services, building rental/lease, sales, utilities, cloud computing services, and rental car fees. Costs for these services usually cover all expenses associated with the annual services and do not require a large capital outlay.

Many financial experts suggest that all things being equal, OpEx purchasing strategies should cost more than CapEx purchasing strategies, but does it? Let's dig deeper into the costs that represent the actual cost of ownership (TCO) of moving to the cloud versus remaining on-premises.

Relating CapEx/OpEx strategies to enterprise data infrastructure and services

By maintaining an on-premises computing and storage infrastructure, you're investing capital in expensive IT assets that may never be fully utilized. Companies choosing to stay on premises face the possibility that if they don't plan correctly or invest enough, their computing capabilities, i.e., storage capacity, processing speed, search performance, will be limited which in turn can cause business issues. If they invest too much and don't use the assets fully, they have spent money on unused assets that could have been invested somewhere else.

When relying on "pay as you go" cloud subscriptions, organizations use and pay for only what they need – dynamic scalability. Depending on the cloud services subscription contract price, this benefit could very well provide obvious cost savings. There's also the opportunity cost of tying up a large amount of money instead of using some or all of it for another investment where you can generate additional revenue and profits. In other words, opportunity cost is the lost revenue/profit when one alternative investment (purchasing additional computer equipment that may or may not be used effectively) is selected over another.

On Premises versus the Cloud

A well-known cloud analyst characterizes the total cost of ownership as "down and off," arguing that one should always seek to reduce an asset's resources as much as possible so long as its functional and performance requirements are met. Suppose an application, or other IT asset, is not used or used only sparingly. In that case, the asset should be shut down temporarily until it's needed again. However, this strategy may not be cost-effective if you factor in the ongoing cost of maintaining unused infrastructure and application licenses.

The administrative complexity involved with ongoing enterprise infrastructure management (resource loading, SLAs, etc.) is so high that performing an OpEx vs. CapEx analysis must assume a fully loaded operation of resources required at application peak load. The organization can then use that peak load basis to evaluate the CapEx vs. OpEx models to compare on-premises and cloud computing. For most companies, it's simply too complex to evaluate in any other way.

The bottom line is that companies should only want to pay for IT resources that they actually use; anything else is a waste of money. Cloud service providers allow organizations to adopt a "pay as they go" services model (OpEx model), enabling companies to engage cloud hosting experts' resources and expertise. Additionally, they can quickly take advantage of new capabilities faster, without the needed upfront investments, i.e., machine learning/AI, and realize cost savings throughout the year.

READ MORE: Best long term data storage? A cloud archive

Calculating Total Cost of Ownership (TCO)

Calculating the TCO for cloud vs. on premises services and investing in equipment is straightforward - determine what capabilities your organization needs; storage, CPU, search, information management, higher security, and disaster recovery (among others) and negotiate some estimates with the cloud vendor.

On-premises TCO is a bit more complex. There are several key takeaways when calculating on premises costs.

CPU and storage requirements are the most significant variable impacting overall total costs of ownership; however, there are many more most companies do not consider:

1. The cost of software and annual support contracts
2. The cost of additional personnel to manage the systems
3. Regular replacement of hardware assets – on premises assets must be periodically replaced/upgraded
4. Floorspace and related utilities such as power and cooling are not free
5. The cost of disaster recovery and backup
6. The cost of unused but purchased assets
7. The cost of cyber-liability insurance

In fact, the TCO for on-premises vs. cloud information management and archiving is usually much higher due to the unseen fully loaded costs of on-premises solutions and the economies of scale offered by the cloud computing model.

On-Premises CapEx versus Cloud-based OpEx

Circling back to the original question - the cloud versus on-premises and CapEx versus OpEx strategies, it's evident that moving from an on-premises infrastructure to the cloud - from a CapEx strategy to an OpEx strategy - could save your organization a great deal of money as well as free up the initial investment dollars to be used for other investments with a higher ROI.

In the cloud era, companies who used to avoid significant operational expenses are now adopting them, particularly for these benefits:

• More cost-effective – the cloud offers "economies of scale" that on-premises investments cannot
• More flexible – add additional functionality, quickly
• Better compliance – localized data storage for data sovereignty
• Less red tape and approvals needed to proceed
• Faster implementation
• More scalable – use only the resources that you need. No more investing in equipment that you don't use
• More secure

But be aware, your mileage may vary, so it's always a best practice to run the calculations yourself for your specific circumstance.

Archive2Azure and the Azure Cloud

Archive360's Archive2Azure is a native Azure information management and archiving platform that works hand in hand with the Azure Cloud providing organizations a viable alternative to a costly on premises computing infrastructure. If you're pursuing a digital transformation strategy that includes moving your data centers to the cloud, Archive2Azure and the Azure Cloud are the way to go.