Since Akamai (NASDAQ:AKAM) announced their plans to acquire Cotendo, I've gotten a lot of questions about what this means for AT&T (NYSE:T), how I came up with my 6x revenue estimate, and I've also seen many sites incorrectly reporting what products and services Cotendo is focused on. I'll try and answer all of those questions here, add some clarity to what Cotendo does, and if you have a question I didn't cover, put it in the comments section and I'll answer it if I can.
In my blog post talking about the deal, I said that Akamai paid about 6x revenue for Cotendo which is based on Cotendo's projected 2012 revenue, not their trailing 2011 revenue. Cotendo will do about $30M in revenue in 2011 and based on that, the deal would be valued at about 9x revenue. But these deals are typically done on future projected revenue, from which I am hearing a revenue estimate for Cotendo was in the $45M range for 2012. Based on those numbers, Cotendo is valued at 6x revenue. Of course these numbers could be off a little bit as no one knows exactly how much revenue Cotendo would of done in 2012, but they were growing revenue quickly over the past three years, so their run rate looked good.
Some on Wall Street have said that the deal was smaller than they expected, that Akamai didn't have to spend as much as they thought they would have and that Cotendo and their investors should have waited for a bigger payout. Everyone has a different definition on what they consider a "small" or "large" deal to be, but personally, I think the deal size was right. For any company to raise $37M, have $30M in revenue and get bought out for $268M in cash, that's not a small deal and while Cotendo and their investors could have waited it out, there is no guarantee they would have gotten more.
I think it's also important to remember that Akamai didn't buy Cotendo for their revenue, they bought them for some technology, but mostly for insurance. Much of what Cotendo does Akamai already offers, so the real value to Akamai is keeping Cotendo out of the market, allowing Akamai to retain more share and over time, increase Akamai's margins since there will be less pricing pressure in the market. Akamai can't pay too much for this insurance, but that's what the Cotendo deal is. I think they paid a fair price and if Akamai can get their value add services year over year growth back to 35% like it was many quarters ago, down from 17% last quarter, the Cotendo deal will pay for itself.
Moving on to how this impacts AT&T, I've since learned that AT&T did not license Cotendo's software, as I originally reported. AT&T's partnership with Cotendo allows AT&T to re-sell Cotendo's offering and some of Cotendo's servers sit inside of AT&T's network. But AT&T is not paying Cotendo any revenue for the licensing of software. It now makes more sense as to why AT&T didn't buy Cotendo, since Cotendo's software is not what powers AT&T's services. That said, I still would have liked to have seen AT&T buy Cotendo to show their commitment to the industry, but clearly AT&T feels they have other options in the market.
That other option for AT&T is clearly EdgeCast, whom AT&T already has a relationship with for standard CDN services. Earlier this year I reported that AT&T licensed EdgeCast's software, which is running on the AT&T network as a licensed CDN offering (LCDN). While EdgeCast's platform was only supporting traditional CDN services at the time, EdgeCast has since rolled out application delivery functionality (more details on that here) and I suspect AT&T will now use that and stop re-selling Cotendo once the Akamai deal is finalized.
While I have seen some blogs implying that AT&T is Cotendo's main customer, that's not the case. Today, Cotendo gets a very small percentage of their revenue from AT&T. It's also not accurate for some to suggest that by Akamai purchasing Cotendo, it now gives Akamai a leg up in the licensed CDN (LCDN) market. Akamai is looking to develop and sell a LCDN product to telcos, carriers, MSOs that primarily focuses on video and large object delivery, not DSA and app acceleration. Cotendo's products do not solve problems the carriers are facing and Cotendo has no software licensing deals in place. EdgeCast has many carriers that have licensed their CDN software, but that's for a different service.
There have been many sites saying that Cotendo has mobile solutions for "video content" or that the company offers "video distribution to mobile devices", but that's not true. No where in Akamai's press release does the company even use the word video and Cotendo's mobile acceleration service is not primarily setup for video. Here is a post on how Cotendo's mobile content acceleration technology works: An Inside Look At Cotendo's Newly Announced Mobile Acceleration Service.
Cotendo's mobile acceleration service is, amongst other things, a combination of improved TCP algorithms and route optimization along with more advanced DNS mapping to speed up transport of packets at the network layer. It is not optimizing video content inside the carrier network for mobile video content owners. That is a solution that Akamai is currently working with Ericsson on, which Akamai expects to launch in the first half of next year. Some have also said or implied that, "Cotendo has a focus on mobile", but that's not entirely true. Cotendo gets the vast majority of their revenue from their non-mobile platform and Cotendo's mobile service was only released in the market five months ago. So while Cotendo does have a mobile platform, I would not say that it is their core focus, at least from a revenue standpoint.
As for my statement that the Akamai and Cotendo deal is bad for customers, I have yet to find a single customer for these services that disagrees. What I keep hearing from customers, and have from day one, is that they want more choices in the market, for all kinds of services. With Akamai taking out Cotendo, Akamai now owns the market. It's great for Akamai and their business, but bad for customers who want multiple choices and options and need to get competitive quotes in the market. So customers who want to compare offerings from multiple venors, in many cases, won't be able to since Akamai took out their biggest service based competitor for these services.
On the pricing front, I can't remember a single instance where a segment of the market consolidated and it lead to lower pricing. Years ago, Speedera and C&W were really starting to pressure Akamai for CDN delivery and pricing was starting to get lower in the market. Once Akamai bought Speedera and C&W went out of business in the U.S., CDN pricing went up, not down, because Akamai was the only game in town for CDN at any real scale. Years later, when more large-scale CDN providers came into the market and customers had choices again, pricing for those services went down and the market grew faster.
Competition is a good thing for the market, that's the point I was trying to make. Of course every vendor wants to have as little competition as possible, have high margins and protect those high margins and that's what Akamai has done with the Cotendo deal. It's a very smart business move for Akamai, but not great for customers who want choices as now, they don't have many other choices, unless they try and do it themselves, which is still competition to Akamai, but it's a different kind of competition as its competing against your customer as opposed to a service based vendor.
All of this aside, the real question is who plans to step up and try and fill Cotendo's void? Akamai will have quite a lock on the market for these services for awhile, but not forever, and there are a few vendors who will try and challenge Akamai and become the next Cotendo in the market. Some will suggest no one can fill that void, but that's also what some said when Cotendo launched in the market and they managed to put enough pressure on Akamai to get themselves sued and then acquired, all in less than three years.
EdgeCast is probably the next to try and challenge Akamai for these kinds of services and I expect Amazon will also offer DSA at some point soon. Level 3 is not yet offering the same services that Cotendo does, that I know of; Limelight has a DSA offering but I don't know what functionality it has and they don't really promote it well; CDNetworks has some of these services but most of their revenue is outside the U.S. and we don't know what kind of success AT&T will have selling this in the market. So a clear challenger to Akamai has not yet been established. I'll outline in more detail which vendors I think have the best shot at challenging Akamai for these services, in a later post.
Disclosure: No positions.