Analysis: Cloud Stocks Flying Higher And Higher


A stock market basket of cloud-computing companies is far outstripping the rest of the market as a whole over a two-month span, showing investors are voting with their wallets overwhelmingly in favor of companies like Rackspace, Google and Salesforce.com.

We created our Cloud Index in November to gauge momentum behind companies that drive much of their revenue from hosting IT infrastructure. This group of company stocks has since grown in value at six times the rate of the Dow Jones Industrial Average and is showing no signs of slowing down.

Today, barely two months after its creation, this index crossed over the 20 percent growth mark.

Here's how we put it together: Six companies were selected on the basis of having much, most or all of of their technology offerings based on cloud or hosted IT models. Each had at least a slightly different approach to the market than the other five.

Then, a hypothetical investment of about $1,000 was made in the stock of each company. We've tracked the total "portfolio" value since then, and in two months its grown by 20.42 percent as of the market's close on Monday. Not bad, considering the same amount of money put into a bank savings account would net you less than a couple of dimes during the same time span.

There are some reasons for caution, though. Some of these companies are shouldering very heavy debt burdens. Debt ratings also have to be considered in financial reports, and at least one of these six companies has debt ratings that show cause for concern. Infrastructure costs will continue to be heavy for some of these companies to be positioned to take advantage of growth in the cloud computing model - - at least without sacrificing in areas like performance and uptime.

One of these companies, Rackspace, has seemed to have found nice traction in the market to go along with its growth and strengthening financials, and Salesforce.com has what many might view as enviable business results. Others, despite strength in the stock market, may be more challenged.

Here's a look at these cloud companies we've been tracking, their performance on Wall Street over the past two months, and a look beneath the surface at other numbers that hold these companies together:

Google -- Google's technology and offerings embrace the cloud model, clearly, with continued popularity of everything from Gmail to Google Apps to the relatively new Google Wave, which is still in a pre-beta testing period. But Google is still reliant on online advertising -- it makes up 97 percent of the company's revenues with no meaningful shift in sight. It is leading the community effort to build out the Android operating system for mobile devices, is making a big deal of its Nexus One smart phone, and has said it's working on a cloud-based client operating system -- Google Chrome OS.

Until the company signals a strong effort to shift more of its revenue mix to its cloud-based technology offerings, even in a weak advertising market, there may continue to be some lingering doubts about the near-term profitability of cloud computing market-wide. Two-month stock price growth: 5.86 percent.

Rackspace -- Clearly, Rackspace has emerged as a leader. Not only has the company been profitable and shown top-line growth, but in the past year it's paid down significant amounts of debt even as it continues building out its data center infrastructure.

The CRN Test Center's review of Rackspace offerings, including storage and e-mail, has shown strong technology with nice foundation for improvement, as well. Rackspace's formula has, for the past few quarters, been to add about one new server for every four new customers - a ratio that appears to be a responsible, manageable way to build out its hosted offerings.

Among the other companies in this market basket, though, Rackspace leaders may want to do more work to emulate Salesforce.com and it's ability to work with more technology partners to expand its reach without the need for massive investment. Still, Rackspace remains the one company that will be worth watching and considering as IT customers begin looking to deploy more of their infrastructure on the cloud. Two-month stock price growth: 27 percent.

Terremark - Terremark has never turned a profit in the history of the company. In addition, most of the companies have either been engaged in, or have planned for, monumental buildouts of infrastructure that could consume massive amounts of capital and cause them to take on significant amounts of debt. That would leave some companies with little margin for error should pricing and margins decline, energy or building costs increase, or corporate adoption of cloud models slow down or slump. Two-month stock price growth: 34.47 percent.

Qwest -- The telecommunications giant doesn't just provide important networking infrastructure to much of the West Coast, in support of many cloud deployments. Qwest has two key solutions for larger enterprises in the area of cloud service: Qwest CyberCenters for high-availability application hosting, and iQ Networking, which has more of a managed services approach to large enterprise IT. Qwest operates in a traditionally high-cost, infrastructure-heavy and competitive segment. Yet in the past two months shares of its stock have increased by greater than 22 percent -- another six-times-the-Dow growth story. One reason for caution: the major debt ratings agencies, including Moody's and Fitch, have given much of Qwest's outstanding debt the equivalent of a "speculative" rating. That makes it more expensive for Qwest to borrow and it could become an issue if the company needs to raise capital. Two-month stock price growth: 23.42 percent.

Equinix - Equinix has been publicly traded since 2000, and provides carrier-neutral data center hosting and International Business Exchange (IBX) infrastructure for outsourced, hosted IT. In its most recent quarter, Equinix reported year-over-year top line growth of 24 percent, with nice cash flow. However, the company's expenses also continue to grow and it included this ominous-looking line in its quarterly report filed with the U.S. Securities and Exchange Commission: "As of September 30, 2009, our total indebtedness was approximately $1.5 billion, our stockholders' equity was $1.1 billion and our cash and investments totaled $627.4 million." Two-month stock price growth: 14.06 percent.

Salesforce.com -- Perhaps the company that's friendliest to the channel and solution providers out of all the cloud companies in this market basket, Salesforce.com has adopted a smart strategy: its AppExchange app store for third-party ISVs has buttressed its core, hosted CRM business model and offerings. AppExchange has placed Salesforce.com squarely in the busy intersection of application-level technology providers who are banking on the cloud model to accelerate growth. This is worth noting: for its most recent quarter, Salesforce.com posted earnings that showed 20 percent revenue growth and "Net income attributable to salesforce.com" that reached 100 percent.

That's not all - the company had $1.1 billion in cash and cash equivalents when it last closed its books for the quarter. Two-month stock price growth: 17.09 percent.