Disruptor CDN Fastly To IPO Friday, Here's What To Watch For

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About: Fastly, Inc. (FSLY), Includes: AKAM
by: Dan Rayburn
Summary

On Wall Street, the biggest question I'm being asked is whether or not Fastly can become a $500M company in 3 years.

Based on what I see in the market I think the 3-year target for Fastly is doable.

Fastly is on a great path to continued growth but we need to watch how they scale their business over the next few years.

Thursday night, CDN provider Fastly will price their shares and go public Friday morning under the ticker FSLY, looking to raise around $170M, with shares expected to price between $14-$16 a share. At the higher end of the price range, it would value Fastly at around $1.4B. The company has raised $219M to date and ended 2018 with 449 employees.

Fastly had $144.6M in revenue in calendar 2018, up 37.8% from its $105M in revenue in 2017. The company lost $30.9M in the 2018 calendar year, down 4.7% from $32.5M in losses in 2017. As of December 2018, 84% of Fastly's revenue is derived from 227 enterprise-sized customers with each of those customers accounting for $530,000 in yearly revenue. [S-1 Filing]

On Wall Street, the biggest question I'm being asked is whether or not Fastly can become a $500M company in 3 years and hit $1.5B in revenue within 10 years, while also increasing margins in the 70% range. While it's too early to be able to answer the question, based on what I see in the market I think the 3-year target for Fastly is doable. I closely track the size and growth rate of the markets Fastly is in, talk to and survey over 1,000 customers a year who use these services and I see the use cases that are coming with compute at the edge.

All of this data adds up to a much bigger growth opportunity for these services over the next few years as more customers demand greater flexibility and better performance across their entire IT business stack. I've also known Fastly as a company for a long time, and am impressed by how disciplined they have been over the last few years from an operational level, across product, sales and marketing. The company has done an amazing job over the last 2-3 years disrupting on performance, ease of use, flexibility, and price. But make no mistake, Fastly isn't selling on price. The company is winning on performance, the functionality of their services, being extremely quick and nimble, and simply doing it all at a lower price than competitors.

Fastly is very good at passing on business that isn't strategic and/or is priced too low and they don't sign contracts simple to "fill the pipes". Fastly isn't trying to have a product portfolio for every sized customer, in every vertical and for every use case. They are very strategic on how they roll out services into new markets and target certain sized customers with use cases that solve specific problems. As a result of Fastly's success to date, most are naturally wondering what impact Fastly is having on Akamai (NASDAQ:AKAM) as Fastly raises more money, and what that competitive threat looks like going forward as Fastly continues to grow.

While Fastly is pressuring Akamai in many segments of their business, winning deals on performance, price, and ease of use, there is only so much business Fastly can take from Akamai each year, simply based on their size. By my estimates, Fastly gets exposed to about 10% more of Akamai based contracts each year. So Fastly isn't going to take a huge percentage of Akamai's business overnight. But that doesn't mean they can't disrupt the entire market by forcing other CDNs to do a better job competing on price and performance, which they are doing.

Fastly has done a great job growing their business past the $100M revenue mark, which is where most CDNs in the past have stumbled. But from day-one, Fastly's been a different CDN, targeting and specializing in the web performance market, not video streaming. From a network standpoint, Fastly has built a very different underlying network architecture, and as a result, is adding capacity without anything close to the CAPEX costs others CDNs are spending. Fastly has no routers or switches and its strength is the fact that they operate a software defined network with a footprint of 1,596 servers (as of March 31, 2019) across 60 POPs. If you want to geek out on how Fastly deploys their infrastructure, check out this video presentation by them from last year.

A big difference between Fastly and Akamai is the fact that Fastly is one network, for all of their services. A single network. Akamai has many networks, all built for a specific use case, for instance video, TLS, etc. which makes it hard to achieve efficiency at scale when you are buying and operating so many networks for each purpose. But one of the most important aspects of Fastly's network deployment is the fact that they are a programmable edge. And while everyone uses the term "edge" without ever defining it, here's how to think of the uniqueness of Fastly.

If a customer builds their own DDoS, paywall, or image optimization service, they can run it from the edge on Fastly's network. Nearly every other CDN requires the customer to have to use their DDoS, or image optimization service and doesn't support the running of third-party applications on their infrastructure. Running applications and compute at the edge, that's where this market is headed, which is why Fastly calls themselves an "edge cloud". And CDNs that don't have that functionality at scale, with flexibility and performance, are going to struggle to grow their business as more customers in the market require the functionality. This is exactly why it's an area Akamai has said they are "increasing their investment" in that functionality.

Fastly is on a great path to continued growth but we need to watch how they scale their business over the next few years. As they begin to enter new verticals like banking and finance, a vertical that Akamai downright owns, how quickly can Fastly grow their revenue in new markets? How much can they grow their wallet share with current customers and increase their margins? Fastly rightly deserves credit for what they have already done and the expertise they have proven in the market. But now their work really begins to take their business to a whole new level and scale their network, revenue and customer base, with the target of being profitable. They will be a fun one to watch.

Note: I have never bought, sold or traded a single share of stock in any public CDN company ever. I am not receiving nor buying any shares in Fastly. My stock purchases have been restricted to Apple, Netflix, Facebook and NVIDIA.

Disclosure: None

Editor's Note: The summary bullets for this article were chosen by Seeking Alpha editors.