The Top Three Cloud Stocks from Gartner’s Magic Quadrant

Anindya is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

The cloud market can be a big, daunting place. Cloud adoption is growing at a rate of five to eleven times faster than traditional software, and a large portion of IT budgets are increasingly moving over to the cloud. This growth can be attributed to the lower barriers to entry and lower switching costs, which are sparking much more development and activity in the cloud. But who are the real market leaders? Research firm Gartner's answer lies in its Magic Quadrant report for the Infrastructure as a Service (IaaS) market. 

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Image: Gartner's Magic Quadrant

The Gartner Magic Quadrant is widely recognized as one of the most influential market analyses for enterprises seeking to evaluate cloud and hosting vendors. Its evaluation is based on vendors’ completeness of vision, including market understanding, product strategy and innovation, among other criteria. The Magic Quadrant also assesses ability to execute, which includes operations and overall viability.

In this article I will focus on three top cloud stocks included in the Magic Quadrant report that could deliver significant returns to investors over the longer term. But first, what does the term “cloud” mean in a broader sense?

Cloud Computing Defined

  • The consumption model – Cloud computing offers a unique way to consume a shared pool of computing resources (including networks, servers, storage, applications, and services) that can be added or removed quickly and at a potentially lower cost than a traditional IT infrastructure.
  • The services model – The three fundamental cloud computing services models are infrastructure as a service (IaaS), platform as a service (PaaS), and software as a service (SaaS). Choose any or all of these models depending on your needs.
  • The deployment model – There are numerous ways to deploy and use clouds with various considerations, including private cloud, community cloud, public cloud, and hybrid cloud. You can customize your deployment model according to security, network access, IT skills, and more.

Top Three Cloud Stocks

To be included in the Magic Quadrant, the provider must offer a stand-alone IaaS offering run across at least two data centers, complete with 24/7 customer support. Because of the focus on market share, the MQ report takes a more company-and-market-dynamic approach to evaluating firms, rather than a pure look at the technical offerings of each company. It's a solid guide, though, and provides a basic who's who in the cloud.

1. Amazon.com (NASDAQ: AMZN)

Amazon is well known to online shoppers, but its Amazon Web Services, or AWS, business offers a cloud-based set of infrastructure and application services to businesses that can be used to run everything from mobile apps, to websites, to big-data operations. And it’s quietly become an increasingly more valuable part of the company’s revenue -- and its stock price, which is up more than 50% over the last 12 months.

Carlos Kirjner, an analyst with Bernstein Research, estimated that nearly 20% of Amazon’s current share price comes from the value of the Web services arm. This would make the AWS business worth about $24 billion. AWS is the internet infrastructure that is the backbone of cloud-architecture based software and services. AWS has one of the widest breadths of cloud services -- including compute, storage, networking, databases, load balancers, applications and application development platforms, all delivered as a cloud service.

Kirjner estimates that last year, AWS contributed $1.8 billion to Amazon’s revenue, and that was double what the business did in 2011, but nothing compared to the $20 billion in revenue it is expected to bring in by 2020. “AWS is likely to grow at a rapid pace for the next several years as Amazon improves the security, compliance, and performance of current offers, expands AWS into new geographies, introduces new products and services and targets new multi-billion revenue pools,” he wrote.

The company is "extraordinarily innovative, exceptionally agile, and has one of the richest IaaS portfolio of services," according to Gartner. Its large pool of capacity in the cloud optimizes it for batch computing, high-performance computing, and big data analytics. It has a large technology ecosystem, which makes running licensed and packaged software easy to do in its cloud.

There are some cautions for Amazon, though. One analyst, Jillian Mirandi of Technology Business Researcher, has suggested that continued outages could eventually start hindering businesses' willingness to invest in Amazon's infrastructure. For a more comprehensive view on Amazon as an investment opportunity, you can read my earlier post: Why This E-Commerce Stock Is A Conviction Buy?

2. Rackspace (NYSE: RAX)

Rackspace's OpenStack involvement allows it to compete at the scale and capacity of Amazon. Rackspace is attempting to build a cloud that can scale to just about anyone's needs, says financial analyst Pat Walravens, and he believes with the OpenStack backing the size of deals that Rackspace is able to land will only continue to increase.

"If Amazon is going for scale, cost and breadth of services, Rackspace is going for its services, including what it calls its fanatical support for customers," says Forrester analyst Dave Bartoletti. "They're really trying to make the play that they're the safer enterprise choice and with OpenStack, they want to be known as the non-Amazon."

Rackspace announced in February that it has entered into a definitive agreement to acquire ObjectRocket, a MongoDB database as a service (DBaaS) provider. With ObjectRocket's open source-based MongoDB solution, Rackspace will broaden its OpenStack-based open cloud platform to offer customers a NoSQL DBaaS. NoSQL software revenue is expected to grow at a CAGR of 82% to reach $215 million by 2015. While the acquisition will undoubtedly be EPS accretive for Rackspace, it will also help the company establish a strong presence within the high growth NoSQL database market.

Rackspace has been betting big on OpenStack, which Gartner says is the strength for the company. Rackspace has the second-largest market share in the cloud, provides excellent customer support and offers low-cost entry points into the cloud, making it ideal for experimentations. Rackspace's OpenStack involvement allows it to compete at the scale and capacity of Amazon. Rackspace is attempting to build a cloud that can scale to just about anyone's needs.

It uses Xen to virtualize its cloud, and has object storage, CDN and platform as a service (PaaS) offerings. Its goal is to provide hybrid cloud connectivity with customers who use OpenStack in their on-site private clouds. Its traditional strength in the managed hosting space gives it a strong customer base to sell its cloud products into, Gartner says.

3. VMware (NYSE: VMW)

VMware is another company that offers its public cloud services via Bluelock. Bluelock is part of VMware's vCloud Data Center Service, meaning it leverages VMware tools to power its offering. It was one of the first to roll out new VMware features, and its product roadmap is aligned with that of VMware's, Gartner says. It has a "Portfolio" service, which provides monitoring of IaaS resources and advises customers on how to optimize workloads.

VMware recently unveiled the VMware Horizon Suite, a comprehensive enterprise cloud platform that will connect end users to their data, applications, and desktops on any device without sacrificing IT security and control. 

VMware has been identified as one of 2013's 50 Disruptive CompaniesMIT Technology Review 's annual list of the world's most innovative technology companies. The honorees are nominated by MIT Technology Review's editors, who look for companies that have demonstrated original and valuable technology over the last year, are bringing that technology to market at significant scale, and are clearly influencing their competitors.

I've watched VMware closely for the past three years with the large continual share purchases by EMC. The company reported stronger than expected revenue and earnings when it released 4th quarter numbers in February. Total revenue of $1.29 billion just beat consensus of $1.28 billion, and EPS of $0.81 was solidly ahead of the street estimate of $0.78. The stock is expected to trade sideways from its current price for the next few months until it starts gaining traction in the second half of the year. Long-term investors should accumulate shares of the stock in this consolidation.


Anindya7 has no position in any stocks mentioned. The Motley Fool recommends Amazon.com, Rackspace Hosting, and VMware. The Motley Fool owns shares of Amazon.com and VMware. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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