Google, Inc. and Amazon.com, Inc. Cross "The Point of No Return" in Cloud Storage

Google  recently announced that it would offer free unlimited cloud storage for its new Photos app. This was a direct response to Amazon.com (NASDAQ: AMZN  ) , which offered the same service for Prime members last year. But whereas Prime members have to pay $99 per year, Google is now giving away the same service for free.

Google's new Photos app. Source: Google

This marks a major escalation in the cloud storage wars between Google, Amazon, Microsoft (NASDAQ: MSFT  ) , and smaller companies like Box (NYSE: BOX  ) and Dropbox. Now that Google has lowered public price expectations for cloud storage to zero, what could happen to other subscription-based cloud storage services?

How did we get here?

Between 1995 and 2014, the average price of 1 GB of storage on a hard drive dropped from $1,120 to $0.03. This made it much more affordable to set up large cloud-based servers. As Internet speeds improved and more people started to use mobile devices, more companies started replacing local hardware and software with cloud-based services.

But as tech giants entered the market, competition brought down prices. Companies like Google, Amazon, and Microsoft started using free cloud services as loss leaders to tether more users to their ecosystems.

Google and Microsoft both currently offer 15GB of free storage. Amazon offers free unlimited storage of photos to Prime members, while non-Prime members must pay $11.99 per year for unlimited photo storage or $59.99 for unlimited storage of all file types.

This clash of the tech titans puts tremendous pressure on smaller competitors like Dropbox and Box. Dropbox users start with 2GB of free storage, but can "earn" up to 16GB with referrals. Box users get just 10GB of free storage.

The race to zero

Companies usually only offer unlimited plans to certain customers.Dropbox offers unlimited storage with Dropbox for Business, which costs $15 per month. Box offers the same for business users who pay $17 per month. Google gives unlimited free storage to schools with Apps for Education, while Apps for Work enterprise subscribers can pay $10 monthly for the service. Microsoft offers unlimited OneDrive storage with all subscriptions to Office 365, which cost at least $70 per year.

But by offering free unlimited cloud storage to everyone with Photos, Google is lowering mainstream price expectations for cloud storage. By the end of 2014, Amazon had already cut prices for Amazon Web Services (AWS) 47 times in just six years. Last November, Box CEO Aaron Levie told The Information that storage would be "free and infinite" in the future.

Opening the doors to "free and infinite" storage is a risky proposition, because companies must run power-hungry data centers to provide it. Last year, Google, Microsoft, and Amazon respectively spent $10.9 billion, $5.3 billion, and $4.9 billion on expanding their global cloud infrastructure.

A Microsoft data center. Source: Microsoft

Why are companies doing this?

It might seem odd to build billion-dollar data centers to provide free cloud storage for customers. However, cloud storage merely serves as a foundation for these companies' long-term business strategies. To survive, companies must provide innovative services on top of that stored data that customers are willing to pay for.

Box and Dropbox both offer extra layers of file security for enterprise subscribers -- a lucrative feature in an era of catastrophic data breaches. Microsoft and Google integrate cloud storage into their productivity apps and mobile operating systems. They also offer tools for software developers, marketers, and webmasters to create cloud-based apps, websites, and monitor analytics. Amazon offers similar tools through AWS, and IBM does the same with Bluemix.

Cloud storage isn't really free

That's why Google is offering unlimited cloud storage of photos. When users upload those photos to Google's cloud, it identifies and indexes them and makes them searchable by terms like "dogs" or "parties." By using that mined data, Google could profile a user to improve its targeted ads.
Apple CEO Tim Cook recently addressed this controversial issue during the EPIC Champions of Freedom event in Washington:

We believe the customer should be in control of their own information. You might like these so-called free services, but we don't think they're worth having your email, your search history and now even your family photos data-mined and sold off for god knows what advertising purpose.

That strategy, which Facebook also uses, raises troubling questions about "free" cloud services. If mainstream consumers expect cloud storage to be free and unlimited, which methods of generating revenue from their stored data are ethical?

The key takeaway

Tech companies often refer to the cloud as the next great frontier for growth. However, investors should understand that most of the money won't come from storage. Instead, it will mostly come from cloud-based services like security, analytics, developer platforms, and marketing.

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