Nothing has disrupted the global economy so much in the last decade as the cloud.
By creating networks of giant data centers based on virtualization, distributed computing and open-source software, the five companies I have taken to calling the “Cloud Czars”– Microsoft (NASDAQ:MSFT), Apple (NASDAQ:AAPL), Amazon (NASDAQ:AMZN) Alphabet (NASDAQ:GOOG, NASDAQ:GOOGL) and Facebook (NASDAQ:FB) — have captured half the Nasdaq’s value, with over $4 trillion in cumulative market cap.
In the last two years they have been joined by newcomers — Alibaba (NYSE:BABA), Tencent Holding (OTCMKTS:TCEHY), Baidu (NASDAQ:BIDU) and JD.Com (NASDAQ:JD). These companies now have as much power over the Chinese economy as America’s Cloud Czars do here. And they’re hungry for more.
But don’t confuse dominance, even on a monopoly level, with temporary market advantage.
Because as cloud has become a standard, its parts have become standardized. There are no secrets. The directions are freely available through open-source groups like Facebook’s Open Compute Project.
Some of the companies who will supply the new world of what I call “universal cloud” are privately held startups. But many of the best-positioned are already scaled behemoths. Some will even pay you to own them.
The following gallery isn’t comprehensive. But it does illustrate some of the key components in the movement toward this universal cloud.
Cloud Stocks: Intel (INTC)
Clouds are based on the idea that, instead of buying expensive Intel (NASDAQ:INTC) server chips, you can get the same power buying their cheaper chips and running them in parallel.
Intel’s power in the cloud is based on its status as the low-cost producer of microprocessors, not on any cutting-edge technology. This has impacted investor views of Intel throughout the cloud era.
At its Sept. 24 closing price of $49.82 per share, INTC is up 156% during the last 10 years. Trouble is, the average S&P 500 stock is up 193%. Big unit orders from cloud builders have transformed Intel, from a growth stock to an income stock. Its annual $1.26 per-share dividend payout yields 2.5% to new shareholders. That dividend is supported by earnings.
While Intel sales have been increasing over 9% per year since 2015, and net income has doubled in that time, analysts moan over its lack of a cutting edge. They also focus constant drama in its C-suite. It took seven months of headlines — and a global search — to promote CFO Robert Swan to CEO in January.
Nine months later, most analysts still rate Intel as a “hold.” Many fail to see that, even while losing market share, Intel has a huge market before it. Private clouds and the internet of things don’t require cutting-edge chips. They require cost-effective solutions. That’s what Intel provides.
Rumors of this company’s demise in the 2020s seem greatly exaggerated.
The most exciting cloud story of 2019 is artificial intelligence.
Low-latency services built on voice or visual interfaces require that clouds get an upgrade. The primary upgrade is to graphics processors like those made by Nvidia (NASDAQ:NVDA), which started its life making chips for video games.
Nvidia looks like a power in the private cloud world, not only because a graphics chip’s AI capabilities mean Nvidia can give a corporate cloud even faster processing speed than a public cloud, but because Nvidia can provide a complete solution. Its pending acquisition of Mellanox (NASDAQ:MLNX) for $6.9 billion gives it an internal networking component for private clouds.
Nvidia has already capitalized with its EGX platform, designed to bring AI capabilities to the edge of a corporate network. It means private clouds with even faster processing speed than public clouds. This is essential if an enterprise is going to commit to buying instead of renting capacity.
The company’s sales have doubled since 2016, even when the recent inventory recession — a product of the boom (and subsequent bust) in Bitcoin mining — is taken into account. Net income is up nearly seven-fold, and the shares even pay a small dividend. But they’re also very expensive. At its Sept. 24 price of $172.53 per share, you’re paying 40 times earnings.
Nvidia is the kind of stock you buy for growth. You don’t have to name your dog after it but, if you’re a growth-oriented investor, analysts still consider it a must-have.
Investors in Micron Technology (NASDAQ:MU) endured a torrid back half of 2018. Shares in the Boise-based maker of memory chips fell 43%. Even in June they were up only 6% from that year-end level.
Now they’re on fire. The chip industry’s “inventory recession” appears to be over. Investors are getting in ahead of new growth — the shares up 53% in just over three months.
Micron makes memory chips. It faces competition from such giants as Samsung (OTCMKTS:SSNLF), SK Hynix and Intel. Also, Chinese production is coming on-stream, fueled (according to Micron) by the theft of its intellectual property.
Even with their recent rise, Micron shares remain dirt cheap. The trailing price-to-earnings ratio is under 6, close to that of General Motors (NYSE:GM). This for a company whose sales have doubled in the last three years and generated over $16 billion in operating cash flow last year.
Micron shares grew over 400% between mid-2016 and 2018, and are rising again, based on a “super cycle” of memory chips replacing disk memory in phones, computers, and even public clouds.
Now Micron is poised to boom because of universal cloud, small cloud-based data centers built with chip memory and fast graphics processors. Micron can also be expected to win in the so-called internet of things. Factories, machines, appliances and consumer health devices are getting computers and sensors that will let them respond automatically to change, without human intervention.
Only three of 33 analysts following Micron have it rated at “underweight” or “sell.” Almost two-thirds have it rated as a “buy.” Investors looking to get in on the universal cloud age are already piling in.
Advanced Micro Devices (AMD)
One of the greatest turnaround stories of the 2010s was that of Advanced Micro Devices (NASDAQ:AMD). As recently as early 2016, this was a $2 stock. On Sept. 24 it was trading at near $30. The company’s rise was fueled by two chip designs, Ryzen microprocessors and Radeon graphics chips, introduced under now-CEO Lisa Su.
Ryzen chips are faster than those of Intel, and have been gaining market share as a result. Radeon is competitive with graphics chips from Nvidia, and sales have been rising as new markets like artificial intelligence have appeared.
AMD sold its chip foundry to an Arab-based startup called GlobalFoundries in 2012. Today it is strictly a chip designer, like Nvidia, rather than a virtual clone of Intel. As the costs of fabrication have risen, the profits in semiconductors now come from design, with hardware essentially becoming software.
AMD stock has had to rise against worries that Intel might crush it with new designs, as it did many times since its founding in 1969. So far that hasn’t happened. But many analysts consider it overvalued, assuming that might still happen.
Meanwhile AMD is well-positioned for the world of universal cloud. A relatively small, privately run cloud data center may cost more, per processor, than Alphabet or Amazon paid back in the day, but it’s new. Local workers and services can take advantage of the faster speed, developing products and services that can then be pushed out to the public cloud as they scale.
Shares in AMD have spent the last year trying to regain last September’s levels. But they now have a base from which to take off. If sales start growing again with the rise of universal cloud, AMD will be a winner again for speculative technology investors.
Back in the 1990s Michael Dell made a fortune through mass customization, building PCs to order and, eventually, selling them off a website. Dell could buy parts as needed and disintermediated the entire channel.
Universal cloud may bring those good old days back again. After years in the wilderness, highlighted by the 2015 purchase of EMC for $67 billion which took Dell private for three years, the Austin-based billionaire is back in the saddle again.
The new Dell (NYSE:DELL) supplies both hardware and software to cloud providers, and is thus in a good position to sell customized versions of the universal cloud. Dell owns most of VMware (NYSE:VMW), the original leader in virtualization technology. The company still makes computer hardware, and EMC still makes storage systems and sells software.
Dell stock is, like EMC stock before it, one of the great bargains of the tech world. At a market cap of $38.6 billion, it sells for just 17 times trailing earnings and just 41% of its 2018 sales, which were $91.6 billion. This is largely due to EMC, whose storage subsystems can be disintermediated through software and which usually use hard disk drives, not just memory chips. Dell owns 82% of VMware, which has a market cap of over $60 billion.
The reason for this is Dell’s $45 billion debt, stemming from its acquisition of EMC. The enterprise value of the company, its debt plus its equity, is thus closer to $83 billion. Michael Dell himself, who got his start in 1983 assembling PC upgrade kits in his University of Texas dorm room, is today worth over $32 billion.
Michael Dell remains a good man to know if you want to make money.
Hewlett Packard Enterprise (HPE)
This hasn’t proven to be a slam dunk. HPE is up 45% since then, but HPQ stock is up 39%. That’s because they have complementary strengths.
HPQ makes PCs, most based on Intel chips. HPE has the software and enterprise expertise. Building a custom, private cloud solution requires both.
Despite this, HPE is calling itself a hybrid cloud company. It offers racked servers — dozens of PCs plugged into refrigerator-sized boxes. HPE offers data storage appliances much like Dell’s EMC unit. It also offers networking products as well as software for managing each of these elements.
HPE is a cheap stock. Its market cap of $19 billion is just two-thirds of its annual sales of over $29 billion. It is undervalued, but it has been underperforming for so long that many analysts consider it barely worth holding. You probably couldn’t pick CEO Antonio Neri out of a lineup. Before the break-up, he ran the server and networking businesses.
Neri has been on an acquisition binge since taking over, buying companies including Aruba Networks and Cray. Neri says HPE is moving toward an “as-a-service” model. Essentially, a cloudless cloud built around products like Greenlake, InfoSight and OneView, aimed at creating software-defined infrastructure.
Regardless of the vision, Neri’s focused management approach is gaining market share, in areas like storage. The company recently raised its earnings guidance, despite missing previous earnings estimates. Most of its revenue now comes from what it calls its “Hybrid IT” segment, the equipment and software evolving into hybrid clouds.
For most big companies, cloud is a journey. Most aren’t there yet. HPE wants to be the guide that leads others toward universal cloud.
If you believe in the idea of universal cloud, Cisco (NASDAQ:CSCO) is one of the most conservative investments you can make. Its dividend yields 2.9% at a market cap of $207 billion, about four times its annual sales.
Cisco’s net income is up 25% over the last three years. Cash flow has been growing, too. It still had $33 billion of cash on the books at the end of July, even after making seven acquisitions over the last year, including Duo Security, Acadia Networks and privately held Luxtera.
Cisco was once the most valuable company in the world in the year 2000 thanks to its networking gear. Today it is making a turn toward subscription-based services, with a new security acquisition every year. Duo alone, which makes the “two-factor” authentication system, cost $2.4 billion. This system that calls you to confirm that you’re the person using your sign-in credentials.
Cisco CEO Chuck Robbins has said he “decided to change everything” after taking over from his legendary predecessor, John Chambers, in 2015. This means he turned what had been a networking equipment maker into more of a software company, with 30% of revenue expected to come from software sold through subscription by next year.
The transition isn’t entirely smooth. Cybersecurity is a tough business requiring constant investment. Rivals Symantec (NASDAQ:SYMC) and Check Point (NASDAQ:CHKP) have been hurt by changing trends in that business. And Cisco’s most recent quarter hurt the stock in the near term. The trade war has also hurt Cisco, with sales to China falling off a cliff.
International Business Machines (IBM)
No company has bet more on the universal cloud recently than International Business Machines (NYSE:IBM), which closed on its $34 billion acquisition of Red Hat, the open source software company, in July.
IBM bought Red Hat mainly for its Open Shift, which helps companies put their existing software into “containers” and then easily move that existing software onto cloud infrastructure. Red Hat may be IBM’s last chance to regain relevance in a market it once defined. Sales that peaked at over $106 billion in 2012 were down to $78 billion in 2018. Its market cap, which was nearly $195 billion in 2012, is now $126 billion. The situation for shareholders might be worse, the shares yield a fat 4.6%.
That’s either a yield trap or an opportunity, depending on how the Red Hat deal turns out. IBM was used to being a complete solutions provider. Now every customer has its own computer experts. Most corporate leaders are technologists, but IBM CEO Virginia Rometty still came up through marketing.
Red Hat CEO Jim Whitehurst came up managing technology change. Analysts who call IBM stock a buy have their hopes pinned in Whitehurst replacing Rometty.
IBM now has a “hybrid cloud” strategy, in which all its hardware is becoming cloud native using Red Hat software.
IBM is also repositioning its Watson front-end for the internet of things. It is investing in quantum computing. It’s also still talking about blockchain, the encryption-protected general ledger that claims it will transform commerce.
IBM could still be a yield trap. It could also be a great speculation.
As previously noted, Dell Technologies owns 82% of VMware. The reason is that Dell has kept the debt from its acquisition of VMware and parent EMC. VMware is where the growth is. VMware sells for over six times sales and 16 times its operating cash flow. Sales have grown by nearly one-third since 2015, and net income exploded recently, reaching $4.9 billion in the July quarter alone. The shares are up over 35% over the last two years.
VMware is where Dell is putting its hybrid cloud software investment. VMware created vSphere, the virtualization software on which cloud is based. It is now using acquisitions to build a complete hybrid cloud suite. Companies offering ingredients for such a suite can name their price.
One of its recent deals is for Pivotal Software (NYSE:PVTL), which began as a joint venture with General Electric (NYSE:GE) aimed at bringing factory automation to the cloud. The company also bought Carbon Black (NASDAQ:CBLK), which makes cloud security software. Together the two companies cost nearly $5 billion.
VMware’s hybrid cloud software stack has won it partnerships with public cloud leaders Amazon’s AWS and Microsoft’s Azure. VMware also signed a deal with Oracle (NASDAQ:ORCL) to make Oracle more cloud-like.
In the era of universal cloud, everything is built on software. Networking can be made into software, and so can storage. There’s an arms race underway to build complete software stacks for universal cloud, and VMware is leading the race.
Once you have a private cloud, where do you put it and how do you connect it to the public clouds? One place to put it is an Equinix (NASDAQ:EQIX) co-location center. Equinix, which was founded in 1998 to bring speed video services to internet users, is now organized as a real estate investment trust, building through debt and passing income in the form of dividends.
Since the start of 2015 Equinix has raised its dividend from $1.69 per share to $2.46. That dividend yields just 1.7%, but the stock is up 161%, an average annual return of almost 35%.
Equinix and competitors like CoreSite (NYSE:COR), QTS Realty Trust (NYSE:QTS) and Digital Realty Trust (NYSE:DLR), act as interchanges for cloud networks. Their fiber lines connect directly to public clouds like those of Amazon, Microsoft or Alphabet, so companies who place their equipment with them can get physical security and total connectivity.
As the companies involved in hybrid cloud look for ways to grow, they find that partnering with companies like Equinix makes sense. VMware and Oracle are just two of the latest companies to join the Equinix platform, with on-demand global interconnections Equinix calls its Cloud Exchange Fabric.
Equinix is the perfect stock for older investors who want both capital gains and income. This is the one throat to choke.
Dana Blankenhorn is a financial and technology journalist. He is the author of the environmental story, Bridget O’Flynn and the Bear, available at the Amazon Kindle store. Write him at email@example.com or follow him on Twitter at @danablankenhorn. As of this writing he owned shares in AMZN, MSFT and DLR.