In a wide-ranging discussion with TBR, Dell Technologies’ Adam Miller, a marketing leader focused on cybersecurity, explained his company’s strategy in the security services space, including how Dell Technologies expects to stand out over the coming few years. The following analysis reflects both that discussion and TBR’s ongoing coverage of Dell Technologies.

20 years of experience and 1,000-plus customers

Dell Technologies (NYSE: DELL) is well known for its secure devices and infrastructure but is quickly catching up to peers in terms of name recognition around security services (see below for a description of the company’s security services portfolio). While brand can be improved through marketing, acquisitions, and sustained and successful partnerships that deliver security services value to clients as part of a multiparty engagement, Miller believes Dell Technologies will get a substantial boost based on its expanding Services portfolio and impactful Zero Trust security partnership with the U.S. Department of Defense (DOD).

As part of the initiative, named Project Fort Zero, Dell Technologies, in concert with 30-plus other technology partners, will deliver an “advanced maturity Zero Trust solution” — validated by the DOD — within the next 12 months. U.S. defense and intelligence agencies have long been viewed as leading edge organizations with respect to cybersecurity, and vendors have often sought to use credentials related to providing security solutions to the U.S. federal government as a testament to their expertise and reliability. Dell Technologies should see a substantial increase in its brand value around security services as the company expands the Project Fort Zero initiative across the wider U.S. federal government and enterprise organizations.

In addition to providing clients with some sense of authority and dependability, Dell Technologies should also benefit from leading a loose consortium of security-related technology solution providers. The cybersecurity space is far too vast for any single player to truly be “end to end,” so partnering well across the ecosystem frequently separates leaders from middle performers and laggards. Dell Technologies should be able to leverage Project Fort Zero to solidify its partnering capabilities and demonstrate leadership.

Proven and low-cost strategy: Going to market as part of larger Dell Technologies

Similar to peers’ offerings, Dell Security Services are offered as an add-on to technology and services engagements, almost always with existing clients. Miller did not anticipate any change in that approach, and TBR believes executing well on a proven and low-cost strategy trumps aggressive sales campaigns and marketing blitzes.

TBR recognizes that the add-on approach could limit Dell Technologies’ security services’ growth, but the company can lean into its trusted technology provider reputation and strong client relationships to ensure security services, at a minimum, keep pace with the larger company and are positioned to accelerate when market conditions permit.

As noted above, should Project Fort Zero significantly boost Dell Technologies’ security brand, the company may be able to use security services as a leading offering in its go-to-market strategies.

Dell Technologies streamlined its security portfolio following several divestments in recent years

Since the close of the massive $65 billion acquisition of EMC in 2016, Dell Technologies has been a seller in the M&A market, slowly refining its portfolio while also paying down debt. This has involved divesting parts of its security portfolio such as SonicWall and RSA. However, Dell Technologies very much remains a player in the cybersecurity arena, with recent divestments enabling it to narrow its focus on its overall security strategy. Several of the company’s security offerings are now tucked under the APEX umbrella, such as APEX Backup, APEX Cyber Recovery and APEX Data Storage.

Additionally, Dell Technologies has developed its security services strategy to focus on three fundamental areas that help customers reduce their attack surface, protect their assets and data, manage security proactively, and help build cybersecurity maturity. These families of offerings and services fit well with the company’s portfolio and overall strategy, aligning with its existing hardware products, and creating opportunities for attached sales to larger IT infrastructure engagements.

Steady, smart and sane, with a boost coming from Project Fort Zero

Miller made clear to TBR that Managed Detection and Response remains a target area for Dell Technologies’ investments, while noting his company understands that many peers in the security services space view Managed Detection and Response as a core offering. That understanding marks exceptional self-awareness on Dell Technologies’ part about where the company fits within the broader cybersecurity ecosystem. Dell Technologies has strengths it can play to and believes the security services market has long-term potential.

In TBR’s view, Dell Technologies has not been trying to differentiate where differentiation is impossible and is not betting the farm on security services growth. Instead, the company is taking an approach that is steady, smart and sane. Add to that strategic approach a potentially highly beneficial solution validation from the U.S. Department of Defense, and Dell Technologies has positioned itself well for steady, and possibly accelerated, security services growth.

TBR’s coverage of Dell Technologies includes individual vendor coverage by the IT Infrastructure, Devices and Professional Services teams, along with various benchmark and market forecast coverage across TBR.

Adding Splunk will accelerate Cisco’s business model transition

While cloud solutions were originally meant to simplify IT, in many ways they have gradually become just as complex as traditional IT environments. From a performance and security point of view, the shift from delivering within customers’ own data centers to utilizing a multitude of external cloud providers has amplified the challenges of managing and securing these environments. This shift has given rise to a group of vendors that includes Splunk, which provides observability and security solutions that can address the variety of delivery methods used by most customers. The September announcement that Cisco (Nasdaq: CSCO) will acquire Splunk for $28 billion validates this new reality for customers and reflects the need for deep-pocketed traditional IT vendors to shift their own business models to incorporate more subscription revenue streams.

Cisco targets the PaaS space to become one of the largest software vendors in the world

Agreeing to acquire Splunk reflects Cisco’s recognition of the changing growth trends in the cloud space. During the acquisition announcement, Cisco CEO Chuck Robbins noted this purchase would make Cisco one of the largest software companies globally. That phrase seems a little dated, however, as all the largest software vendors are trying to shift their revenue streams to cloud-delivered subscription revenue, and even those revenue streams have slowed significantly in recent quarters.
 
The largest providers in the well-established IaaS space such as Amazon Web Services (AWS) (Nasdaq: AMZN) and Microsoft (Nasdaq: MSFT) have seen growth moderate, as have leading SaaS providers such as Salesforce (NYSE: CRM) and SAP (NYSE: SAP). The slowing growth for leading providers is due in part to market saturation, as most customers have already shifted to cloud-based solutions, but also reflects a consolidation in the vendor landscape. However, the PaaS market, in which Splunk participates, remains a broad and less mature space that continues to see expanding opportunity. TBR expects PaaS will be the fastest-growing segment of the overall cloud market over the next five years, increasing from $115 billion in 2022 to more than $300 billion in 2027, an average annual growth rate of 21.7%.

Within the security and observability segment of the PaaS space, Splunk stood out as one of the largest providers, which led to Cisco’s interest in the vendor. In its fiscal year ended March 31, 2023, Splunk increased cloud revenue by 54%, and projections for fiscal 2024 have the company generating just under $4 billion in revenue for the year. Profitability has also been on the rise, with Splunk reporting a mid-20% non-GAAP operating margin for fiscal 2023. Most recently, Splunk has continued its momentum, with cloud revenue growth of 29% year-to-year in fiscal 1Q24 (calendar 2Q23) and declines in operating expenses during the quarter, accelerating margin improvement.

Splunk was the largest independent vendor in its market segment, but the acquisition will bring Cisco into greater competition with some of its more diverse peers and competitors, including Microsoft and IBM (NYSE: IBM). Despite the increase in competitive dynamics, this move is not novel, as many of the largest legacy IT providers have risked competitive overlap to accelerate the modernization of their businesses to include more cloud assets. The purchase is not the first for Cisco in the PaaS space, as it most notably purchased AppDynamics for $3.7 billion in 2017 and has acquired a dozen software- or cloud-centric firms in the past two years.

Splunk’s ongoing cloud transition is not unlike Cisco’s

From a top-line perspective, Splunk should add nearly $4 billion in revenue for Cisco post-acquisition and cloud annual recurring revenue of nearly the same amount. While total revenue, cloud revenue and even profitability have been bright spots for Splunk recently, they come after a more than three-year transition for the vendor. Founded in 2003, Splunk was too early to be born in the cloud, beginning with a traditional software licensing model that persisted well into recent years.

Just as other legacy vendors such as Cisco evolved toward subscription and “as a Service” business models, so did Splunk, and it did so while experiencing many of the same financial and leadership challenges that other vendors encounter. In fiscal year 2020 revenue was still growing but software remained a majority of Splunk’s revenue. In fiscal year 2021 cloud revenue grew 77% year-to-year but could not offset the downturn in licensing revenue, and total revenue declined by 5%. It was not until fiscal year 2022 that the company’s growth turned a corner. With new CEO Gary Steele installed in April 2022, total revenue grew by double digits in both fiscal 2022 and 2023, with cloud revenue growing as a percentage of the mix and leading the expansion. After two years of steady progress in Splunk’s cloud transition, it should continue post-acquisition.

Cisco is making progress in its own shift to a subscription model

While ICT hardware will remain a cornerstone of digital transformation, growth opportunities are shifting to the software layer across Cisco’s customer segments. This trend is also driven by customers preferring to consume solutions on a subscription basis. Cisco’s ambition is to align with customers’ digital road maps and capture both software and hardware revenue in a subscription model.

In line with this goal, Cisco continues to capture more of its revenue via subscriptions. The company has an ongoing restructuring program not solely to cut costs but also to reallocate resources to continue shifting to a subscription-based business model. Cisco’s Partner Program encourages participants to drive sales of subscription-based offerings. The company is helping partners support this business model transition with innovations in customer financing (Cisco Lifecycle Pay) and offering Cisco Powered Service specializations, which enable partners to be certified as proficient in delivering Cisco “as a Service” solutions, increasing customer confidence in partners.

Subscription revenue as a percentage of software revenue was 85% in 2Q23, a 200-basis-point increase from 2Q22, and software subscription revenue volume grew 20% year-to-year. Subscription revenue spanning hardware, software and services accounted for 43.4% of total revenue in 2Q23, a decline of 60 basis points from 2Q22, though total subscription revenue volume increased 13% year-to-year. Cisco is aiming for subscription revenue to reach 50% of total revenue in 2025. Despite progress and significant M&A events, subscription revenue is lower than TBR anticipated, given the number of resources dedicated to growing this revenue stream.

Integrating Splunk will help change this, given that it is by far Cisco’s largest acquisition to date. Splunk can supercharge Cisco’s security and observability businesses, enhancing existing products and enabling cross-selling opportunities. The Splunk portfolio will also capitalize on Cisco’s industry-leading channel partner ecosystem, which should enable Splunk to accelerate revenue growth.

In the medium to long term, Cisco will explore the use of Splunk’s generative AI capabilities in its observability and security portfolios, as well as in its networking portfolio more broadly. Generative AI will have applications in network management that will simplify the process of deploying and operating enterprise networks for CIO organizations, driving opex reduction.

Splunk will extend and advance but not dramatically alter Cisco’s transformation

The proposed acquisition of Splunk is not only the largest purchase in Cisco’s history but also one of the largest ever in the technology industry. Despite the size, we do not see this purchase as forging a new direction for Cisco, which has been steadily looking to expand into adjacent markets and grow software and subscription revenue streams.
 
Acquisitions have been a staple of Cisco’s strategy over the last decade, and many have focused on business model transformation efforts. Most notably, Cisco purchased AppDynamics in 2017 and added multiple smaller purchases since then to extend and complement the AppDynamics portion of its portfolio. Observability and security capabilities not only represent a growing stream of revenue for Cisco but also are not too far afield from Cisco’s core networking solutions. Although Splunk will continue its own transformation even after the pending purchase is completed, it will bring a sizable financial contribution and should integrate cleanly with the portfolio direction underlying Cisco’s own ongoing transformation.