Cloud computing has been a sector with high flying returns, but lately valuations have also filled up with a little hot air. However, as the sovereign debt and double dip recession worries drag down the market, buying opportunities will come in the cloud computing sector as valuations reach reasonable levels. Out of all of the cloud computing companies, I believe VMWare (NYSE:VMW) leads the pack because of its dominant position in the virtualization market, the cost cutting abilities of a cloud based infrastructure, and its sustainable profitability.
The first factor favorable to VMWare is the macroeconomic and technological trend away from PCs and mainframes to virtualization software and the cloud. It is the leading seller of virtualization software. Virtualization is the ability to simulate hardware through software, allowing multiple operating systems and "virtual computers" on the same machine simultaneously. This technology benefits businesses by saving energy, reducing the amount of needed servers, making disaster recovery of files easier, and enhancing productivity by improving the efficiency of data systems.
In a tight spending corporate environment, virtualization software is one of the few sectors where corporate spending has increased versus severe cuts in other expenditures. As a result, I think VMWare will be able to sustain 20%+ growth rates, as businesses value the efficiency gains from the companies products in a time where overhead needs to be kept as low as possible.
Unlike cloud some cloud competitors such as Netsuite (NYSE:N), VMWare has sustainable profitability and a strong financial position that will allow the company to continue to grow during an economic slowdown. The company has a debt to equity ratio of only 0.1 and a high profit margin of 16.66%. VMWare also has a de facto monopoly in its industry with an 80% market share of virtualization software. As a result, the company can afford to pass on higher prices to consumers and maintain margins.
Overall, due to its financial health and dominance in the virtualization sector, VMWare will be the best performing cloud computing company. While the downturn is not complete, I expect VMWare to be a long term buy. However, to avoid catching a falling knife, put limit buys slightly below the stock's technical support ($73-77 per share).
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.