Cloud companies are growing, and they're losing money. If that's
all you know about them, it's enough. Those two facts define the
industry more than any hyperbole coming out of Silicon Valley. Much
as their predecessors did 15 years ago, today's tech companies are
selling an exciting new technology; and like the dot-coms, they've
embraced a business model that will self-destruct at the first sign
With few exceptions, and regardless of size or sector, these
businesses are running losses. Many are funding themselves through
the issuance of new stock, either directly or through stock
compensation - a strategy that works well during the good times,
and only then. Investors prize growth, so there's little incentive
for these companies to sacrifice it by raising prices. On the other
hand, costs have become worse rather than better, with SG&A
(sales, general, administrative) expenses eating up ever-greater
portions of revenue.
At the moment, these companies are simply growing and hoping - a
plan perfectly suited to springtime, though a little uncomfortable
as summer closes in. With earnings season now behind us, we can see
whether this strategy is paying off.
I'll begin with the enterprise cloud, a relatively mature group of
businesses with high valuations. Four of the largest are
), each of which offers Web products that address basic business
functions, like marketing and payroll. All of them lost money in
the first quarter, with operating margins ranging from -2% at
Concur to -36% at Workday. More surprising, each company saw its
margins deteriorate versus a year ago. This, coupled with fast
growth (though slower than in previous years) led to a doubling of
pre-tax losses. A Bernstein analyst
said of Salesforce
, the largest of the four, that "they're moving from organic to
inorganic growth. And inorganic is very expensive."
Together, these firms are worth $46 billion in market
capitalization. They made $1.2 billion in sales, and lost nearly
$100 million before taxes. At the same time, a total of 15 million
new shares found their way to market, representing roughly $800
million in value - a remarkable amount when compared to business
operations, but in line with past quarters. While this was mostly
the result of stock valuations - 8% annual dilution being high but
not extraordinary - it nevertheless provides a tangible benefit to
these companies, by skewing payroll towards stock compensation.
Earnings reports then emphasize non-GAAP earnings, which paint a
rosy picture by ignoring stock compensation; but this understates
real expenses, and ignores the risk that, should shares fall,
employees will demand cash. Then there is always the danger that
companies which depend so heavily on their stock valuation, will
find ways to lead investors by the nose.
Other cloud firms logged similar performances.
Palo Alto Networks
), which operates a security platform, lost $6 million pre-tax on
$101 million in revenue, versus a negligible loss one year ago.
Share count rose nearly two million in the quarter, or more than
$100 million at current value. The company's press release focused
on the bright side:
revenue grew 54%
(ATHN) sells Web-based services to health-care professionals, and
until recently it was a shining beacon of cloud profitability, with
operating margins of 8% in 2012; but last quarter it bled $12
million before taxes, on $126 million in revenue. The loss was due
in part to the acquisition of
, a mobile app developer and perennial money-loser. Nevertheless,
the purchase allowed Athenahealth to maintain a 30% growth rate - a
detail that received top billing
in its earnings release
Meanwhile, more grounded enterprise companies like
NASDAQ:CSCO) continue to earn big bucks. Growth was low but
generally positive year-over-year, and margins steady. They may be
dinosaurs awaiting the meteorite but, so far, these old men of
enterprise don't seem all that endangered. We can say that, at
least, it probably won't be a recession that kills them.
When it comes to the consumer cloud, we have fewer public companies
to look at.
(NASDAQ:NLFX) did turn a profit, earning $7 million ($3 million
after taxes) on revenues of a little over $1 billion - a modest
improvement over last year's awful Q1. Stock growth amounted to a
relatively modest $150 million.
(P), on the other hand, lost $28 million on sales of $126 million,
with improved margins accompanying a larger loss. The value of new
shares was $24 million.
I would characterize these results as ugly; others might not. In
many ways, though, the first quarter was business as usual. The
devoured two new IPOs
(DATA) - while the rest of the industry soared with market indices.
Infrastructure providers like
(EQIX) were, once again, more profitable than many of their
clients. As in other gold rushes, this one has favored the brothels
rather than the prospectors.
It seems cloud companies are still growing, and they're still
losing money. Maybe next quarter will be different.
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