DCK Investor Edge: While Breaking New Ground, QTS’s AWS Deal is a Wildcard

QTS Realty's CloudRamp is the only colocation offering on the AWS Marketplace and this partnership with Amazon Web Services could become a game changer. However, based upon the recent QTS Investor Day presentation, it remains uncertain how fast this nascent joint sales effort will ramp up. The partnership between QTS and the world’s largest cloud service provider is the first of its kind in the industry.

Having a hyper-scale cloud company actively selling partner colocation cabinets as part of an overall hybrid IT strategy might seem counterintuitive. However, a closer look at this strategic collaboration reveals how customers can benefit from a unified approach.

In an interview with Data Center Knowledge, QTS Realty EVP of product management and marketing Chris Ortbals revealed how this deal came together and gave some additional color regarding the partnership with AWS.

"QTS’s software-defined service delivery platform is a key advancement in our ability to rapidly bring an offering to market to solve for hybrid IT environments,” Ortbals said. “AWS recognized our ability to programmatically integrate with AWS and their engineering teams to provide a fully automated solution from order to customer turn-up. CloudRamp was built to modernize the colocation experience to match the expectations of a public cloud-minded buyer.”

Related:QTS Buys Land for Data Center Construction in Three US Markets

While a cloud-first approach may work for some business models and/or newly minted companies, most enterprises and SMBs have legacy infrastructure or are running multiple applications that require dedicated servers and/or a secure private cloud deployment.

It is in Amazon's best interest to make the transition of applications and data that can thrive in the public cloud as easy as possible. QTS should benefit from cabinets sold short-term during migration to AWS as well as gaining longer-term colocation and private cloud deployments from the partnership.

QTS’s Software Defined Platform

This year saw a slew of announcements by QTS relating to connectivity and added capabilities for the QTS Service Delivery Platform, including a major upgrade announced in July.

451 Research notes:

Initially, QTS had to convince the Amazon team in Seattle that its software-defined data center platform was fully capable and well-suited to integrate with the AWS Marketplace. In July, a collaboration between product teams went into high gear and co-created product offerings ready to go to market by November.

Related:DCK Investor Edge: QTS Aims New Design At Cloud Giants

But QTS CEO Chad Williams put a different spin on this during Investor Day, pointing out that it had been incremental progress made over a 10-year journey which enabled the QTS team to nail down this win.

Amazon's Marketing Muscle

The AWS side of the marketing efforts will be kicking off this week, and it will be a full-court press.

“As part of the strategic collaboration with AWS we co-developed a comprehensive launch plan to enable visibility and market awareness around CloudRamp,” Ortbals said. “This includes a full marketing schedule presented by both companies, field sales enablement, and training, as well as co-presentation of the solution at AWS re:Invent.” re:Invent is Amazon’s big annual cloud conference in Las Vegas coming up in the end of this month.

The sales team training between AWS and QTS has already been completed. Amazon will be rolling out the QTS CloudRamp program as a new pathway for its channel partners and resellers to transition customers over to AWS public cloud.

There are both monthly and annual billing options on the AWS Marketplace for CloudRamp cabinets, including pricing for three distinct levels of services, with AWS Direct Connect available as a preconfigured option. Amazon and QTS sales teams will also be co-creating tailored solutions for larger-scale colocation and private cloud deployments to enable workloads to shift seamlessly to and from the public cloud.

First-Mover Advantage

QTS has a first-mover advantage with its "software-defined data center platform" and mobile apps which can integrate seamlessly with the AWS Marketplace. Duplicating the QTS integrated cloud and managed services offerings would represent another barrier to entry for potential competitors.

The partnership with AWS has validated QTS's SDP portal as a scalable way to sell colocation as part of a hybrid IT solution.  It leverages QTS's ability to provide logical security and compliance for financial services, government agencies, healthcare, and other highly regulated industries.

This should also make it easier for QTS to expand its public cloud partner initiative beyond AWS if CloudRamp proves to be a successful business model.

QTS is initially gearing up at four locations: Santa Clara, Chicago, New York/New Jersey, and Northern Virginia, all of which serve the largest regions in the US for AWS.

Myopic Near-Term Focus

QTS shares have been under pressure since Investor Day earlier this week. Guidance for 2018 was for 12 percent revenue growth, or about 200 basis points lower than some sell-side analysts had modeled previously. 

As part of its CloudRamp strategy, QTS will be transitioning about $9 million of the revenue derived from its Enterprise Cloud business (shared infrastructure) over to AWS. The revenue lost is expected to be $6-$7 million during 2018, but operating FFO per share should not be impacted by exiting this shrinking, low-margin business segment.

Additionally, the previously announced QTS pivot toward greenfield development in top tier markets will be a drag on the overall portfolio return target of 15 percent on invested capital (ROIC).

However, as utilization of powered shells increases over time, these new projects are forecast to meet and then exceed this targeted return. 

The QTS Ashburn ground-up development is already underway, with Phase 1 scheduled for delivery in Q2 2018. However, timing of future development by QTS on acreage recently purchased in Phoenix and Hillsboro, Oregon, will depend upon signing an anchor tenants to de-risk those projects prior to breaking ground.

Investor Edge

The re: Invent conference could become a near-term catalyst for the CloudRamp launch on the AWS Marketplace. Once the Amazon marketing machine kicks into high gear, QTS could have a happy problem of dealing with a "tiger by the tail."

Notably, while the CloudRamp cabinets are billed by AWS, QTS Realty will be contracting directly with customers for any C3 cloud and managed services layered on top of colocation revenues shared with Amazon.

However, it is impossible for anyone to predict the number of cabinets sold in coming months, the rate of churn, or the growth rate for the AWS Marketplace sales channel. It will take at least a few quarters for investors to see how this initiative impacts QTS' C2 colocation and C3 managed services revenue growth, margins, and ultimately the bottom line.

As of this writing, QTS shares have retraced about 6 percent of the double-digit gains in share price leading up to Q3 earnings. If weakness in QTS shares persists, it could create a "buy the dip" opportunity for long-term investors.