Why Should Investors Care About Amazon's Cloud Services?

It's been nearly six years since Amazon.com (Nasdaq: AMZN  ) had the brilliant idea of monetizing its oodles and oodles of surplus computing power.

The e-tailer built up a truly epic computing infrastructure to support its core operations, but much of that hardware had a lot of downtime. While still requiring electric power, man-hours of server maintenance, and data center cooling, the servers would often sit unused. Why not rent out idle servers by the hour instead?

The idea was an instant hit, and Amazon's cloud-computing services have come a long way since then. Management routinely holds up the collection of data-mangling products, collectively known as Amazon Web Services or AWS, as an example of a fast-growing Amazon operation. These days, Amazon pumps millions of dollars specifically into building out the AWS infrastructure, which now is separate from Amazon's general operations.

But CEO Jeff Bezos and his top-level managers are loath to break this business out as a reportable segment, or even discuss sales and margins in an informal manner. So we're left wondering exactly how big AWS really is, and how important the operation is to Amazon's bottom line.

Estimates aplenty
So it's up to outsiders, analysts, and market watchers to figure all of this out. That's a crapshoot at best. Two analyst firms estimated $500 million in AWS revenues in 2010. Another firm agreed, then extended that figure to $750 million in 2011. That estimate looked timid a few months later, when the run rate for 2011 started to look like a billion-dollar business.

Not to sound like a broken record or anything, but even that impressive figure might be too low. Consider cloud-computing rival Rackspace (NYSE: RAX  ) , which is seen as a relative upstart in the virtual server field. Rackspace posted $1 billion of revenue in 2011 and 20% of that came directly from its public cloud services -- a drop-in replacement for much of Amazon's AWS, if you will. While I admire Rackspace's offerings, I would venture to say that Amazon's slice of the market pie is far more than five times larger today.

How about this big?
A recent study by cloud-computing consultant firm DeepField Networks throws new light on Amazon's enormous cloud-computing footprint. Culling data from a huge traffic analysis effort, DeepField concluded that one-third of all North American Internet users touch an AWS server somewhere at least once every day. This traffic accounts for about 1% of all consumer traffic. To put that number into perspective, video-watching giant YouTube pushes only six times as much data. That's a fat-bandwidth service and one of the most popular sites on the Net.

Making the world a better place, one processor-hour at a time
By using Amazon, or Rackspace, or one of the many rivals popping up all over the IT landscape these days, you can scale up a 50,000-processor supercomputer in the cloud to run a massive analysis of chemical data on potential cancer drugs, pay only for the number-crunching time actually used, and shut it all down when you're done. Try that with an in-house supercomputer. Many upstarts now run their entire businesses in the AWS cloud.

Many of Amazon's largest customers are, ironically, traffic analysis experts themselves. They find it easy to leverage AWS services to conduct otherwise cost-prohibitive research and analysis projects. But DeepField also found familiar names like Netflix (Nasdaq: NFLX  ) , Pinterest, Instagram, and Zynga (Nasdaq: ZNGA  ) among the 40 most frequently accessed AWS users.

Netflix famously moved the bulk of its IT infrastructure to AWS in 2010 and hasn't looked back since. Having a direct rival in the digital video world manage your most critical business applications would make many business managers nervous, but Netflix CEO Reed Hastings trusts the separation between the AWS church and Amazon's digital video state. "It's in [Amazon's] interest to make us successful in the cloud," said a Netflix spokesperson at the time of the announcement. "That's why we felt comfortable."

Online gaming giant Zynga would never have been able to scale up its massive hit, FarmVille, to meet customer demand if not for the flexible on-demand structure of Amazon's AWS. Zynga has since moved on to leaning more heavily on its own data centers, but the company wouldn't be the mid-cap public company it is today without a billion-dollar annual revenue stream to support its growing hardware costs.

Cloud computing enables a whole new kind of innovation, and I'm not surprised to see AWS making a billion dollars a year. Amazon would do investors a solid if management would start talking about exactly how much this operation contributes to the top and bottom lines.

This isn't your grandfather's computer industry, and cloud computing is far from the only game-changing megatrend today. In a special report penned by the Fool's finest analysts, you'll find the only stock you need to profit from the new technology revolution in Big Data and business intelligence. The report is totally free but it won't be available much longer, so get your copy right away.

 

Fool contributor Anders Bylund owns shares in Netflix but holds no other position in any of the companies mentioned. Check out Anders' holdings and bio, or follow him on Twitter and Google+. The Motley Fool owns shares of Amazon.com. Motley Fool newsletter services have recommended buying shares of Netflix, Amazon.com, and Rackspace Hosting. The Motley Fool has a disclosure policy. We Fools may not all hold the same opinion, but we all believe that considering a diverse range of insights makes us better investors. Try any of our Foolish newsletter services free for 30 days.


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  • Report this Comment On April 21, 2012, at 6:55 AM, steveat wrote:

    What you will have to look out for are other companies offering a better service. the other problem is that the public aren't aware of what cloud computing is and that the analysts who have no idea about anything are trying to steer them away.

    I am a cloud analyst by title, but a hosting specialist by practice, so I do understand this industry very intimately. Amazon supports a very interoperable and vendor lock-in business model. This is why you see their customers do one of two things.

    1. When they get large enough, they leave

    2. They will then use Amazon for emergency purposes ie. rerouting DDOS attacks

    Amazon supports a very old version of the XEN Hypervisor (At least last I checked). That is the ONLY virtualization they support

    This industry, within 2 years will completely move towards interoperability. Those companies which are hypervisor agnostic and utility based billing, not to mention a service which is hardware agnostic.

    I'd look at Joyent when they IPO. They support KVM virtualization and also have their own in-house SmartOS that is extremely flexible, especially for running scalable applications.

    Rackspace, you hear a ton about them and while they SAY they are backing Openstack..their actual cloud solution (only supporting XEN), is NOT OpenStack. It is proprietary in-house IaaS.

    BTW.

    What does the fool use for their cloud solution?

  • Report this Comment On April 21, 2012, at 6:56 AM, steveat wrote:

    Correction "Amazon supports a very NON-Interoperable and vendor lock-in business model"

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