What Makes Rackspace So Special?

When Rackspace Hosting (NYSE: RAX  ) established its business goals for 2010, it set the bar pretty high. Here's how CFO Bruce Knooihuizen described it: "Grow faster than 2009, while maintaining margins and investing in our business. We also said that we expected adjusted free cash flow to be positive at growth rates below 35%."

Mission accomplished, I'd say. Rackspace didn't just deliver on those promises; it exceeded them.

Not content to just protect its margins, Rackspace expanded its net margin by 100 basis points. The free cash flow target was a squeaker; the company produced just $5.6 million on that non-GAAP line in 2010, but only because of Rackspace's commitment to the "investing in our business" goal. Operating cash flows widened by 24% from 2009 to 2010, and the majority of that gold-and-green river flowed right back into building out and upgrading data centers.

Here's the crazy thing: the barriers to entry into Rackspace's industry are vanishingly low. Anybody could build a server farm and start selling hosting and cloud services. And that's exactly how Rackspace likes it.

You see, its business depends on more than just technology. Rackspace has been in the news lately for giving away the code for its OpenStack service platform. In an exclusive phone interview, CEO Lanham Napier told fellow Fool Tim Beyers that the cloud should be "based on open standards that are ubiquitous and eliminate vendor lock-in. Right? And our strategy is, when we have that, we're just going to outserve everybody in the market. That's what we're going to hang our hat on."

That sounds like a jab at famed lock-in champions Microsoft (Nasdaq: MSFT  ) and Apple (Nasdaq: AAPL  ) . The OpenStack support community is a virtual who's-who of high technology, but those two giants are conspicuous by their absence.

Expounding further on that theme, Napier said:

We live in a world devoid of great service. Yet the average investor or pundit believes that service is not a competitive advantage. It's crazy, right?

He challenged Tim to come up with four more companies that build their business on great service; it's genuinely hard to come up with examples. Personally, I'm reminded only of Red Hat (NYSE: RHT  ) , which shares the open-source ethos of Rackspace and makes its money by selling first-class service contracts for free software.

Can you come up with more examples of truly great service wielded as a competitive advantage? Please share your findings in the comments below. Maybe you have the next Rule Breaker of Rackspace's caliber in mind.

Microsoft is a Motley Fool Inside Value choice. Rackspace Hosting is a Motley Fool Rule Breakers recommendation. Apple is a Motley Fool Stock Advisor pick. The Fool has written puts on Apple. Motley Fool Options has recommended a diagonal call position on Microsoft. The Fool owns shares of Apple and Microsoft. Try any of our Foolish newsletter services free for 30 days.

Fool contributor Anders Bylund holds no position in any of the companies discussed here. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. You can check out Anders' holdings and a concise bio if you like, and The Motley Fool is investors writing for investors.


Read/Post Comments (5) | Recommend This Article (9)

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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 15, 2011, at 10:29 AM, TMFSpiffyPop wrote:

    Southwest Airlines comes to mind. They are extremely customercentric.

  • Report this Comment On February 15, 2011, at 12:51 PM, TMFSpiffyPop wrote:
  • Report this Comment On February 15, 2011, at 3:51 PM, TMFMileHigh wrote:

    David,

    If I could rec a comment, I would. +1 for you and + a lot more than that for Southwest, the pilot, and of course for Rackspace for being so good at service that the company merits mention in the same breath as Southwest.

    FWIW,

    Tim (TMFMileHigh and @milehighfool on Twitter)

  • Report this Comment On February 16, 2011, at 10:49 AM, jefferylhenry wrote:

    List is far and wide. It has also been clearly shown that these companies grow much faster and enjoy higher margins than their lesser ranked peers. When it comes to quality of service and more importantly customers answer YES to this question. 'Will your refer to a friend?"

  • Report this Comment On April 26, 2011, at 1:57 PM, foolish7703 wrote:

    Service that raises the bar? Amazon, Zappos and Nordstrom. Southwest is not in their league (yet).

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