The Inevitable Slide As Server Virtualization Peaks

It has been just about a decade and a half since server virtualization juggernaut VMware debuted the first release of its ESX bare metal hypervisor, and nearly a decade since this hypervisor and its virtual machine guests had enough oomph to take on the job of encapsulating and consolidating multiple operating systems and workloads on since physical servers.

The timing of ESXi 3.5 in 2007 coincided perfectly with the beginning of the Great Recession, and VMware, with a server virtualization stack that was arguably more mature and focused mostly on Windows Server workloads, was able to get dominant share of the corporate datacenter. Since Windows Server 2008 debuted with a very respectable Hyper-V hypervisor for running virtual machines, Microsoft has clawed back its own market share, stunting VMware’s installed base and revenue growth. On the Linux front, the KVM hypervisor backed by Red Hat, has its share of the server virtualization pie, particularly among those building public and private clouds, and the Xen hypervisor and its XenServer hypervisor have their chunks of the market, too, particularly with Amazon Web Services using its own Xen variant and Rackspace Hosting still using the commercial grade version of XenServer from Citrix Systems.

In the enterprise, VMware is still the bellwether for server virtualization, and that is why an admission that the core ESXi and vSphere server virtualization business is in decline is an important event. In a recent call going over VMware’s financial results for the final quarter and full year of 2015, CEO Pat Gelsinger, who used to run the enterprise computing group at chipmaker Intel for many years, didn’t pull any punches.

“We have recognized that our blockbuster compute products are reaching maturity and will represent a decreasing portion of our business going forward, even as they continue to be a powerful springboard for building our new businesses,” Gelsinger told Wall Street, adding that growth in NSX network virtualization, Virtual SAN (VSAN) hyperconverged storage, end user computing (client virtualization in its many forms), and a few other products would more than outpace the decline (relative to VMware’s overall revenues) in core ESXi/vSphere compute virtualization revenues.

King Of The Hill

Carl Eschenbach, president and chief operating officer at VMware, has been with VMware since 2002 and has helped grow the company from 200 people with $31 million in sales at that time to the behemoth that it is today, with more than 18,000 employees and more than 500,000 customers using its various virtual wares. Eschenbach has seen many technical and product transitions at the company, and is facing perhaps the toughest one VMware has had to face as enterprise customers are contemplating building hybrid clouds and want to cut back on their server virtualization costs at the same time that various container products, which do not require full-on server virtualization, come into their own.

For the full year, VMware had $2.72 billion in license sales, up 5 percent, with services revenues of $3.93 billion, up 14 percent. Overall, after a $76 million payment to the General Services Administration for a pricing issue it had with the US government, revenues for the year came to $6.57 billion, up 8.9 percent. Net income for the company was $997 million, up 12.5 percent.

VMware does not break out revenues by product lines in its financial reports, but it does provide some hints. In the call, Eschenbach said that bookings for compute products – this means the vSphere management tools that activate components of the ESXi hypervisor – were roughly flat in the fourth quarter, including both subscriptions for support contracts as well as license sales. License sales by themselves were down in the “low double digits” while management license bookings grew in the “low teens” during the final quarter of the year. (This includes various components of the vRealize suite of tools, which used to be called vCloud Suite but which were rebranded.) VMware says that its cloud management tools, above and beyond the basic vSphere functions and the vCenter management console that are ubiquitous in its customer base, are now installed at 17 percent of its customers, up from 14 percent a year ago.

Sales of its NSX network virtualization tools, which VMware acquired back in the summer of 2012 for $1.26 billion and which were first commercialized three years ago, are a serious bright spot for VMware, given that network virtualization is a pesky problem that is not just limited to its own hypervisors but also to all of the other alternatives in the market, too. In the second half of 2015, said Eschenbach, bookings for the NSX products were twice that which VMware saw in the first half of 2015, and moreover, the annualized revenue run rate as 2015 came to a close was $600 million, triple what it was at the end of 2014. As for hyperconverged storage, VSAN bookings grew by almost 200 percent in the final quarter of 2014, and customer headcount is at over 3,000 sites, triple that from a year ago. The annualized run rate for VSAN was at over $100 million in the fourth quarter.

NSX assumes server virtualization in some form, be it with an ESXi cluster or a cloud built using other hypervisors, either public or private. VMware is gearing up to push NSX as a hybrid networking layer that can span the big public clouds like Amazon Web Services or Microsoft Azure, but it does not have the same hybrid story that it can so easily tell with its ESXi stack. While the vCloud Air network of public clouds created by VMware itself and its service provider partners can offer compatible clouds with the familiar ESXi hypervisor and consistent management tools across on-premises and public cloud infrastructure, the scale of vCloud Air has nothing on Microsoft’s Azure, and moreover, if Windows Server shops want to learn a new management paradigm, as they will have to do when they go hybrid, they might be more apt to shift to Hyper-V and learn Azure Stack for on premises and use Azure for public cloud capacity.

Heavy As A Photon

Server virtualization is a relatively heavy way to drive up utilization on servers, and it has been particularly well suited for Windows workloads where various container technologies have not yet been brought to bear. The lack of sophisticated virtualization and workload management tools in prior releases of Windows Server made VMware’s tools the default choice for enterprises looking to increase the agility of their software deployments while also driving up server utilization. While enterprises are not apt to change platforms quickly, the slowing growth in server virtualization means they have virtualized the stacks they can and that they are probably looking at how they might deploy containers either on top of or instead of virtual machines.

We think that plenty of workloads – particularly in distributed data analytics – have been created to run on bare metal machines and have generally be set up that way as silos within the corporate datacenter. But companies want to be able to consolidate their clusters and the data underneath them so this information and compute capacity can be shared by a wider variety of workloads, driving up utilization much as VMware started doing for Windows Server work a decade ago. We do not think heavy virtualization like that embodied in ESXi will be the tool of choice to create shared, multitenant clusters and that something that looks more like Mesos or Kubernetes, with containers isolating workloads but also allowing for bare metal provisioning where appropriate, will be how enterprises will ultimately want to deploy software. Why do we believe this? It is simple: This is how Google has been running myriad jobs on massive clusters for the past decade.

It would be easy or tempting to compare VMware to Unix systems at the dawn of the Linux revolution in the late 1999s and early 2000s. But that installed base of enterprise customers is vast, and it will not move fast because it is far more conservative that HPC centers, hyperscalers, or cloud builders. (A powerful recession could change that, of course.) Even that transition from Unix systems at the core of the datacenter to those machines largely being replaced by Linux and Windows Server has taken a decade and a half – and is still not over. It may take another decade, in fact.

The number of virtual machines under management is quite large. Shortly after Gelsinger took over VMware in early 2013, VMware had about 30 million VMs under management, and by the summer of 2014 that had grown to around 40 million VMs and as 2015 came to a close it was around 50 million VMs, the company tells The Next Platform. This is a lot of virtual servers, and clearly it represents a very good revenue stream. Even if VMware might be losing some share to competitors or to new approaches like Docker containers, the VM base is still growing, for now at least, although we are of the opinion that it may have peaked.

The good news for VMware is that it is creating a more lightweight, container-friendly, and presumably lower cost platform based on its “Photon” Linux variant and a much streamlined version of ESXi as well as the “Project Bonneville” streamlined VMs that will support Docker containers. And it has NSX and VSAN to help pick up the slack as the server virtualization that made it a contender in the datacenter peaks.

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