Blue Skies Ahead For These 4 Cloud Computing Plays

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 |  Includes: CRM, LVLT, ORCL, RAX
by: David Alton Clark

My Cloud Contextual Experience

The first time I was exposed to "the cloud" was when I was given the Business Continuity Development Project in 1995 for the Citigroup Data Systems Inc. a subsidiary of Citigroup Inc. (NYSE:C). I remember looking at the diagram of the network infrastructure and asking what the picture of the cloud represented. The IT lead told me it represented the internet. In those days, end users were referred to as heavy clients, meaning most applications were loaded on your PC and the internet was mostly used to communicate data.

A few years later I remember being told we were switching to a thin client system internally. You were able to log in using your specific profile to a Citi computer anywhere on Citi's proprietary intranet and be able to access your desktop remotely. I was amazed. Now cloud commuting companies are providing basically all computing needs to end users on a scalable basis over the internet.

The evolution of cloud computing is amazing. I see no stopping it as companies realize the ease of use. I expect more and more companies to begin taking advantage of the significant cost savings and scalability of the service and the companies listed in this article are the optimal ways to participate in the cloud evolution.

Is the Current Cloud Boom a Bubble?

It has been amazing to see the development of cloud based computing through the years. I have heard murmurings from some people that the recent popularity of cloud stocks is similar to the dot com bubble days of yore. When I hear this I laugh because it is obvious to me that these people must not have been around for the dot com bubble. I refer to the cloud computing companies' success as a 17 year overnight success. The cloud revolution has been a long time in the making. Most dot com bubble companies were not even going concerns. Don't get me started. The IPOs were coming out in droves from companies that were nothing but an idea put to paper and shuffled off from the venture capitalist to the investment bankers ASAP. The current cloud plays are real companies with real revenues and some are actually making profits. This is no bubble.

My Cloud Picks

My cloud plays are Salesforce.com (NYSE:CRM), Rackspace Inc. (NYSE:RAX), Oracle (NYSE:ORCL) and Level 3 Communications (NYSE:LVLT). The first four companies provide cloud based services and Level 3 is the cloud. I believe all these companies have massive growth prospects based on the conversion form of companies from their proprietary networks to the cloud based service providers. The IT cloud service outsource model is in its infancy. Please review the following detailed analysis of each of these companies.

Oracle

Oracle CEO Larry Ellison is highly competitive and is currently repositioning Oracle to compete in the cloud space. Oracle notched a new high of 29.53 Thursday probing last week's two month high and its 200 ema at 29.58. The 200 sma comes into play thereafter at 29.98. Oracle missed for the first time in several quarters in fiscal Q2 2012. I see this as an excellent buying opportunity with Oracle back on track to its winning ways next quarter. The cloud computing competition is just now revving up.

Although there is plenty of business to go around you can expect Larry Ellison and Oracle to gain its fair share and then some. Once Oracle's latest cloud acquisitions gain traction, I see Oracle hitting $45 per share, a 50% upside to the current price based on organic growth and multiple expansion. Oracle recently acquired RightNow Technologies for $1.5 billion, which provides customer service online. Also, Oracle struck a deal to buy human-resources software maker Taleo Corp for $1.9 billion.

Salesforce.com

I love Salesforce.com's CEO Marc Benioff's attitude. Look up the word charisma in the dictionary and you will find a picture of Benioff. With Benioff at the helm, Salesforce.com has matured from a revolutionary thought into a trailblazer in enterprise cloud computing. Salesforce.com recently reported strong fourth-quarter earnings and first-quarter 2012 guidance. Salesforce.com significantly beat analysts' estimates last week and gave strong guidance going forward. I would wait for the stock to cool off somewhat after the huge share price spike based on last quarter's results.

Salesforce has its detractors who see the stocks valuation as outlandish with a forward P/E of 71. Salesforce's valuation is sky high, there is no doubt. But that only reflects the fact that Salesforce's prospects are sky high as well. With Benioff at the helm and a billion dollars of deferred revenue backlog, I'm on cloud nine and perceive the silver lining in this cloud play. I believe Salesforce.com is capable of doubling from here over the next few years. This stock is red hot. Salesforce should have no issue maintaining their momentum and are just beginning to pierce the envelope of the cloud market's massive potential. Salesforce recently signed their first 9 digit contract according to Benioff.

Rackspace Inc.

Rackspace's headquarters is right next to my home in San Antonio Texas. They have basically bought out an entire shopping mall and turned it into their headquarters. I feel like an idiot for driving by the company headquarters every day and not seeing it as a sign to buy Rackspace. The company blew out earnings last quarter and reached an all-time high just over $55 a share. Only 20% of Rackspace's revenues currently come from the cloud based services leaving plenty of room for growth. I see only upside as they continue to increase their cloud based services. I've been waiting for the stock to cool off a bit to start a position.

Level 3

I first invested in level 3 back in November of 2010 when it was trading for $1 and on the verge of being delisted just before they won the Netflix (NASDAQ:NFLX) contract. Even after they won the contract the stock floundered due to the fact many said they had to cut margins to gain the business. Nevertheless, the stock began to rise in 2011 reaching the mid $2 mark. The stock had a 15 to 1 reverse split since and is now trading at approximately $25.

The Global Crossing acquisition has filled several holes for the company. Firstly, the high debt to equity ratio that the bears clung to is gone. The combination of the networks has filled the gaps Level 3 had in regards to Latin America. The merger of the two company's sales and back office personnel will invigorate the organization by the injection of fresh blood, new ideas and streamlining of expenses.

One big positive for me is the install base of fix costs are currently covered by growing revenues. The company has reached an inflection point where if cost targets are met, all future dollars should flow straight to the bottom line. Level 3 already has positive free cash flow. With the strong tail winds provided by the emerging cloud based computing paradigm and proliferation of video streaming, the free cash flow and value of the assets will only increase boosting the share price. Cloud based services and streaming media companies are on the rise and Level 3 seems to be a great way to participate. Look to get in to Level 3 at about 5% below the current price. I see Level 3 hitting $45 by years end.

Conclusion

All of these stocks are up curtly due to blow out earnings underpinning the cloud's strength with the exception of Oracle. I see Oracle as a buying opportunity at today's price. Regarding Level 3, Rackspace and Salesforce.com, look for a 5% pullback to jump in. With companies chopping at the bit to enter the new cloud paradigm, the sky is the limit for these cloud plays. Cloud computing's attributes of low capital outlay and scalability saves companies time and money. The cloud is the future of corporate computing.

If you are looking for growth plays to add to your portfolio, these cloud companies fit the bill. Just remember, these are a high beta stocks and are exposed to volatile moves. I would layer in to any position a quarter at a time over a month long period and place a stop loss order.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.