Are the Akamai Bears Right?

Akamai (Nasdaq: AKAM  ) investors are taking it on the chin today after the company offered first-quarter estimates well below what the Street was calling for. The stock is down more than 16% as I write this.

I won't try to cheer you up. Heck, I'm with you; I've owned shares since 2004. Like you, I've suffered through plenty of beatings along the way, including a drubbing so bad that shares of Akamai fell to $9.25 a share on Nov. 20, 2008.

So I know what it feels like, and I won't try to cheer you up. But if there's any good news in all the hullaballoo surrounding last night's report, it's this: Akamai bears are getting cocky.

Matt Phillips of The Wall Street Journal isn't your typical bear. Rather, he's a smart commentator whose writings I like. But if you had to sum up today's Akamai grave dancing party, look no further than this closing bit from Phillips' latest column:

If you're taking a beating on Akamai ... Don't feel bad. Don't think of yourself as a sucker. Rather, consider yourself part of the important fabric of the tapestry that is the markets. People have chased growth stocks for generations and a good many have gone over the cliff with them.

Time to close up shop, eh? The Akamai growth story is over. Don't bother buying more, nothing to see here. As Phillips writes in his column headline: ouch.

But is this really the end of Akamai? Should those who bought at $54 a share a few weeks ago simply sell and move on? Let's review the numbers. Akamai projected $265-$275 million in first-quarter revenue and $0.35 to $0.37 in Q1 normalized earnings per share. Analysts were looking for $283.1 million and $0.38, respectively.

Today's sellers are acting as if Akamai's weaker-than-expected outlook is the beginning of the end. Never mind that the company signed a multi-year deal to serve Netflix (Nasdaq: NFLX  ) here and overseas. Never mind that Q4's big backlog of renewals should fuel strong growth in the second half of the year. The party's over, bulls. We lose.

Of course, it's not that simple. Here are the only two questions that matter if you were a recent Akamai buyer intent on holding three years or more (and if you weren't expecting to hold that long, then Phillips is exactly right: look in the mirror).

  1. What sort of revenue, earnings, and cash flow growth can we expect given Akamai's market and competitive positioning?
  2. How defensible is that growth?

Value investors will tell you a third question is needed: what's that growth worth? They'd be right if we had a way of narrowing the growth opportunity into a tight range, such as 10-15% annually. Here, attempting to do that would be folly.

The web is changing several multi-billion dollar markets, including entertainment, retail, and business software. Akamai participates in each of these markets by adding stability (i.e., its algorithm and server network) to an unstable yet pervasive and cheap to access network (i.e., the Web).

Akamai has plenty of competition in serving the key businesses moving to the web, but that's also been true for more than a decade. Limelight Networks (Nasdaq: LLNW  ) and BitGravity are today's specialist competitors. Google (Nasdaq: GOOG  ) recently teamed with upstart Cotendo. Amazon.com (Nasdaq: AMZN  ) has its own content delivery network. And as CDN watcher Dan Rayburn reports here, AT&T (NYSE: T  ) has turned to another up-and-comer, EdgeCast, for providing Akamai-like services to its customers.

Here's the thing: tens of billions are already being invested in the Web as a delivery mechanism, and tens of billions more are going to need to be invested in order for the Web to replace DVDs, the analog telephone network, and in some cases bricks and mortar retail. And that's not including the dozens of other disruptions we've yet to conceive.

What's more, several of the businesses investing in the expansion of the Web for cloud computing have partnered with Akamai. Most recently among these: Rackspace Hosting (NYSE: RAX  ) , which plans to resell Akamai services to customers in need of application acceleration and e-commerce support.

Akamai's taking a beating today because it's not priced for market-beating performance over the near term. So what? If you're investing in great growth stocks to beat the market over weeks, months, or even the year ahead, you're a momentum trader, not an investor.

But if you're a long-term holder of the stock, nothing you heard yesterday changed the underlying thesis for owning Akamai, an $8 billion business operating in the middle of an opportunity worth several times that.

Do you agree? Disagree? Please vote in the poll below and then leave a comment to explain your thinking. You can also rate Akamai in Motley Fool CAPS.

Interested in more info on the stocks mentioned in this story? Add Acme Packet, Cisco Systems, F5 Networks, Juniper Networks or Riverbed Technology to your watchlist.

Google is a Motley Fool Inside Value pick. Akamai, Google, and Rackspace Hosting are Motley Fool Rule Breakers recommendations. Amazon.com and Netflix are Motley Fool Stock Advisor selections. Try any of our Foolish newsletter services free for 30 days.

Fool contributor Tim Beyers is a member of the Rule Breakers stock-picking team. He owned shares of Akamai and Google at the time of publication. Check out Tim's portfolio holdings and Foolish writings, or connect with him on Twitter as @milehighfool. You can also get his insights delivered directly to your RSS reader. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool owns shares of Google and is also on Twitter as @TheMotleyFool. Like everyone else, its disclosure policy always keeps a full can of bear spray nearby. Consider yourselves warned.


Read/Post Comments (3) | Recommend This Article (20)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On February 10, 2011, at 8:47 PM, will19699 wrote:

    AKAM did the same this a few quarters ago and stormed right back up to new highs. I'm long and not worried in the least. I added a little today.

  • Report this Comment On February 11, 2011, at 3:41 AM, DoubleThree wrote:

    Same happened July last year, so I bought @39 and sold again @52. Time to buy some more and sell again @55. But I'm always keeping a healthy amount for the long term, which will add greatly to my retirement in a few years. Poor bears will never get rich...

  • Report this Comment On February 11, 2011, at 10:49 PM, drillerjim101 wrote:

    Really nice article and level headed, Tim.

    The Market is irrationally influenced by Fear and Greed. AKAM will be moving upward over the next few years as all rational evidence points to. I, for one, thank God for these fearful irrational moments for the investor to scoop up shares of a company offering a nice discount. Thank you for your due diligence on behalf of all us Fools.

    Jim

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