“The No. 1 Cloud Computing Play for New Money” Motley Fool

By Travis Johnson, Stock Gumshoe, April 10, 2009

This ad from the Motley Fool has been around for a while, and they’re now giving away some of the teaser stock names for free — but they’re still keeping one “secret,” so I thought I’d revisit that part of the pitch and let you know who it is.

For those who don’t know what “Cloud Computing” is, you’re not alone — it’s essentially a move to a web-based application and storage environment, where all the programs you use and the data you store are actually on a server somewhere in the “cloud.” You’ll also hear references to “software as a service,” which is a variation of this probably best exemplified by Salesforce.com — software that you never download or tear out of a shrink-wrapped package, it just sits online, waiting for you to use it.

That’s a gross simplification, of course, but what the folks at Motley Fool Rule Breakers are essentially saying is that this cloud computing phenomenon is giving Bill Gates nightmares and may bring down Microsoft, and that this massive wave of innovation can lift your portfolio to new heights.

Instead of pitching this as just an email ad for a signup for Rule Breakers, they’re now giving much of it away as a free report (the report is here, FYI) — but not quite all.

The promise is that they will share with you the “Three Kings of Cloud Computing” — and they almost do. They talk in some detail about their first two “kings”, which are Google and VMWare, and then they go on to say that there’s a third company that stands out as “David’s No. 1 cloud computing pick.”

“David,” if you’re not yet drinking the Motley Fool Kool-Ade, is David Gardner, one of the founding brothers of the service (which essentially started life as an AOL chat board). David is the founding editor of their Rule Breakers newsletter, which searches out growth stocks according to a set of “rule breaker” criteria — these companies have to be “top dogs” and “first movers” in their sector, among other fairly conventional considerations, but my favorite requirement for one of David’s rule breakers is that he requires “documented proof that the financial media thinks it’s ‘overvalued.'” And that has certainly worked well for him on some picks, as he’s touted past momentum growers like Intuitive Surgical and Baidu in recent years, and before that AOL and eBay during the early days of the internet boom. Many of the picks he makes have already had huge runs of several hundred percent, and, as you might expect, many of them have a tendency to fall hard if and when the news or the market turns against them (including all four of those examples noted).

But that’s been a lot of blather to lead up to my main point, which is the secret teased stock they’re still hiding from your prying eyes. Here’s what they say about it:

“This Company Makes the Internet Fly….

“In fact, its potential currently outshines both Google and VMware — making it the No. 1 cloud computing play for new money.

“You see, it works behind the scenes to make sure you can access everything the Web has to offer at lightning-fast speeds.

“And thanks to the ever-growing number of people now using the Internet to do everything from watch movies to buy houses, this once-flailing refugee of the dot-com meltdown is now one of the most important tech companies in the world.

“Apple [Nasdaq: AAPL], Microsoft [Nasdaq: MSFT], Sony [NYSE: SNE], and Nintendo [NTDOY.PK] are among its top clients — and they’re all more than happy to pay up for the quality this company consistently delivers.

“While this usually runs somewhere in the neighborhood of $275,000 per year, more and more complex applications are coming online all the time — giving this company even greater pricing power.

“At last count, it had more than 100 clients paying $1 million or more per year. So it’s no wonder that cash from operations has more than tripled from $83 million in 2005 to over $270 million today… Or that the cash on its balance sheet has grown from just $92 million to a whopping $208 million….

“And because it is both a top dog and a first mover, it has been able to gain an almost insurmountable lead in market share — allowing it to sport superb operating margins.

“Gross margins currently sit at an incredible 77%; meanwhile, net margins have climbed to an all-time high of 17% — and continue to grow.

“All things considered, you can understand why David thinks this will be one of the most dominant players in the cloud computing world for years to come.

“And by becoming a Rule Breaker, you can get its name and stake your claim before the big money gets behind it.”

Good stuff, eh? Of course, by being a Stock Gumshoe reader (free, naturally — though I always welcome new members to the Irregulars) you can “stake your claim” without subscribing to the Rule Breakers, if that’s what your little heart desires. This stock is …

Akamai

Sound familiar? Yes, it was both a dramatic victim of the internet bust, and a huge grower for a few years in the more recent past.

Akamai’s main product offering is essentially a distributed server network that speeds everything up online — instead of using one server farm for serving up a song from iTunes, for example, they’ll replicate the most popular downloads on a server that’s located in a local node of the internet, often in the same facility as your internet service provider’s operations, so that your download doesn’t have to go through web traffic and congestion to get to you.

That’s a dumb-guy understanding of what Akamai does, but it’s essentially true — their main asset is a massive network of local servers located in virtually every neighborhood of the web, and the software that keeps all of those servers happily updated and monitors congestion and traffic online to work through the fastest available pathways. Again, dumb guy version.

I owned shares of Akamai a couple years ago, and did enjoy some nice gains, but it’s been a couple years since I followed them closely. For a while they were getting clobbered as new competing technologies and services offered a faster internet experience at lower cost, including both “free” peer to peer (P2P) services and competing distributed server networks (like Bittorrent or Limewire in P2P, or, for a more direct competitor, Limelight Networks).

Akamai has remained the class of the bunch, though, and it still seems likely that the strongest internet services and brands will want a really secure and guaranteed provider like Akamai, which has enabled them to keep the profits churning. They did get clobbered last year, falling about 75% at the November lows, but the shares have recovered somewhat, just about doubling since then (they’re still down close to 50% from this time last year).

I don’t know a lot about Akamai’s current operations, other than to say that the teased info from the Fool is accurate — and that my guess is they’re enjoying the current environment. Akamai has a very strong balance sheet (no net debt, plenty of cash), and longstanding, deep customer relationships with some key companies — and with mission-critical services like Akamai provides it seems like companies would probably be reluctant to go with a newer, weaker, or more untested network or technology for their needs right now. And with funding hard to come by, any upstart competitors (like Limelight, or the many smaller companies that aren’t yet public) are going to have a hard time raising the capital necessary to compete with Akamai’s huge network.

Analysts give Akamai a forward PE ratio of about 11, which assumes some significant earnings growth (the trailing PE is closer to 25). A fairly large amount of the shares are short at the moment, and the short position has been growing as the shares have climbed a bit in the last few weeks (it’s just under 10% now, but volume is very high so the short ratio — the number of days of normal trading it would take to cover those short sales — is not terribly high at 2.9). Margins have come down somewhat in recent years, thanks in part to competition, but they’re still pretty high — and they’ve continued to post revenue and earnings growth in the teens.

I’d bet that Akamai will maintain its leadership position as the best “toll road operator” on the information superhighway, but whether that means they’ll be more profitable, or the shares will go up, is anyone’s guess. Stocks that trade at a high current multiple, as Akamai does, tend to be very volatile — the trend in the shares is pretty positive, it appears, they’re above their moving averages and MarketClub’s analysis puts them in a “strong uptrend” with a very high score, but that could change at any moment.

If you’re interested in this newsletter or any others from the Motley Fool, we’ve had several reviews posted of Motley Fool newsletters — on average, most of their services get a middling rating, which perhaps makes sense for newsletters that tend to espouse a “buy and hold” strategy for their picks, many of which got clobbered last year. They’re not alone in that strategy, or in that investor response, of course — Rule Breakers itself has only one review at the moment, a mildly positive one, so please chime in if you’ve been a subscriber.

And if you’re interested in Akamai (or in VMWare or Google, or cloud computing in general), feel free to share your thoughts with a comment below — thanks!

If you’d like to see my thoughts the first time I wrote about these “Cloud Computing” companies, you can click here for the older article. I am still an owner of Google shares, but do not own any other stocks mentioned above and will not trade in any mentioned companies for at least three days.


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17 Comments on "“The No. 1 Cloud Computing Play for New Money” Motley Fool"

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farley 5
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farley 5
April 10, 2009 11:21 am

Stock is a 3 for 5 technicals positive in the favored internet sector. If you like this, why not buy the Jan ’11 $20 and sell the Aug ’09 $22.50 for a debit of $4.00. If you manage the trade, you could get quite a few rolls before Jan of ’11. Read the disclosure, etc.

Chris Grande
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April 10, 2009 11:29 am
It may make sense to wait here on AKAM. Of course if there is QQQQ momentum then AKAM will fly higher and long term, their fundamental value prop is good – but there is a high prob that the mkt will correct again (in my opinion for various strong reasons) so there may be a chance to get AKAM below 20. Tech is always tricky tho since the tech ‘whores” (ie typical tech management) pay themselves so much in options they eat a good portion of shareholder profits – however that is countered by the ignorant bliss of the average… Read more »
Bruce Bardes
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Bruce Bardes
April 10, 2009 11:46 am
As the owner of a small business, I don’t buy into the concept of cloud computing. I can’t afford to deal with multiple storage vendors and multiple program sources. In other words, I have to rely on whatever backup and security technology is used by a single cloud source. There’s nobody out there I trust with my company’s entire portfolio of intellectual property. Without that IP, my company has nothing except what my failing memory might be able to remember. And who knows if that IP might leak out to my competitors. I’d rather have my IP under my own… Read more »
ponce
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ponce
April 11, 2009 8:19 pm

Raptor is supposed to have the technology and hardware for distributed network which is superior to CISCO’s. Voyant has the software to speed up signal transmission by a 100 factor. Any high tech guys here know what kind of hurdles these companies are going through? These stocks have not gone up. What’s up? I believed Mr. Gumshoe looked these up a while back.

sam b.
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sam b.
November 7, 2009 9:53 pm

The future of computing can not be well predicted in my opinion. Look at what happened to Dr. Skorvatch – we can all learn a lesson from that!

ProphetElijah
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ProphetElijah
November 19, 2009 8:38 am

(to Sam B.) Dr. Skorvatch is NOT a good example for this. Yes, he was brilliant. Yes, he was WAY ahead of his time (like Bill Gates, Martha Stewart, etc.). However, his childhood problems created a miserable, crotchety, ornery adult with very questionable motivations. Therefore, his breakthrough in pneumonia research, while revolutionary, cannot be compared to the topic of this article. Again, just my opinion.

Marcus
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Marcus
January 6, 2010 1:29 am

Nice article, I am a member of Motley Fool, however I get a bit anoyed by the strange propaganda that they pop in my email every so often. If you ask me Cloud Computing has not proved itself as a profitable market. It may in the future work well for buisnesses on the private scale but it will interesting to see if it can overcome the Internet’s free mentality. Like social networking is popular but only a select few third party companies have made it profitable. This letter sounds more like a scam to raise a penny stocks price.

advantedges
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January 6, 2010 2:04 pm

Barrons just wrote a cover story on cloud computing. Of all the companies listed, it appears that IBM will once again take the lead in the clouds. Why? Because they are IBMers! lol
AKAM is likely a “buyout” target. IF 2010 goes the route that it could, we may see a record number of mergers and acquitions. I would put AKAM on my list, along with GS, (as long as they don’t go “private.”)

pat
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pat
April 3, 2010 1:25 am

What's your take on apple in cloud computing?

babici
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April 4, 2010 10:23 am

i do agree AKAM looks like a buyout target, perhaps for Goog.

texbudda
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texbudda
June 4, 2010 12:23 pm

what happens if goog does buy out akami, will you still own the shares in akami

Chris Grande
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April 10, 2009 11:32 am

hey Farley, I like the idea of playing this with options if you feel u need to be in this name – that’s a great way to approach it. Nice work on the suggestion – limiting risk is key tho I’d rather be collecting premium than paying it. Perhaps sell a put at a price you might want to be in and sell a call at a price you might want to be out to offset the cost of holding a position? or simply sell the put at a comfortable price then the worry level is much lower…

SageNot
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SageNot
April 10, 2009 2:01 pm

That is the better option’s trade, provided that you want the stock PUT to you. Otherwise you’d need a buy stop (& not too close) to avoid having the stock PUT to you.

Farley is talking about a 2011 Leap set of options, who the heck knows if AKAM w/b worth owning then?

EYoung
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EYoung
September 15, 2009 11:19 am

I have to agree with you, Bruce,,, I have always been concerned with IP, whether on my own system, and especially in “cloud computing”. When the military and governmental systems (Supposedly ‘closed?’ are vulnerable to hacker attacks, what would the consequences be of a successful attack on Cloud??? I don’t want to even consider the crash that would result~!

LennyZ
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LennyZ
February 20, 2010 11:21 pm

I enjoy reading through these comments, and laugh to a few tears. One thing I know it’s going to happen is that whatever it takes to make networking in the clouds to work faster at home, business, wirelessly, cellular there are the next dot-com era or dot-comers-stikeback era..

Gravity Switch
Admin
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June 4, 2010 7:15 pm
Every buyout is different — if a company bought out Akamai with shares, you'd get the shares in return; if they paid cash or some combination of cash and shares, you'd get the cash. Unless it's a very odd sort of partial takeover, the shares would cease to exist as a stand-alone stock. Akamai's getting to be a pretty large mid-cap now, with a market cap of $7 billion, and its the biggest player in its space by a wide margin … but it is, of course, still teensy compared to the largest tech stocks like Google, IBM, Apple or… Read more »
Paul
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Paul
December 17, 2011 11:04 am
I too am a small business owner but we do use the cloud. Not for everything but for many day to day tasks. For instance we have saleman all over who can log on to a spreadsheet that is updated real time. So I can have one salesman updating the master spreadsheet live while another watches. It is then stored for access by any authorized user of that spreadsheet. I understand the worry that the cloud could go down but there is nothing so critical to our survival on there that we could not wait to retrieve or recreate. Eventually… Read more »
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