The cloud is a pretty straightforward service. It's essentially an offsite data storage, processing, and application (software) delivery environment (here's a quick primer if you're still a little unclear). The cloud allows enterprises to store huge amounts of data, developers to scale applications rapidly and dynamically, and end users to run programs without having them hosted locally. All of this can save an organization enormous amounts of money.

The cloud is still a relatively new phenomenon. Adoption rates are accelerating at a robust pace and there is still plenty of growth ahead. As with all emerging technologies, there will be big winners, big losers, and a bunch of also-rans. One way to avoid owning the losers and the also-rans is to follow this simple three-step approach.

  1. Buy the leaders in their industry
  2. Own companies with high barriers to entry
  3. Hold on as the market expands.
Group of laptops plugged into a cloud

Image source: Getty Images

Three cloud computing stocks that pass all three of these tests are MongoDB, Inc. (NASDAQ:MDB), Five9, Inc. (NASDAQ:FIVN), and Paycom Software, Inc. (NYSE:PAYC). Each of these cloud computing companies is a leader in their respective industry. Each has a business model that presents a huge barrier to entry to their competition. Each conducts business in a segment that has a massive total addressable market (TAM). And each of them owns just a tiny fraction of their respective TAM! There's a ton of market share growth available for each of them. And all of this is reflected in the numbers.

When these three cloud computing companies last reported quarterly earnings they all demonstrated impressive gross margins, big increases in recurring revenues, and positive surprises in both sales and earnings.

Company

Gross Margin Actual Revenue vs. Estimates Actual Earnings vs. Estimates Increase In Recurring Revenue
MongoDB 68% 7.5% -28.6% 33%
Five9 59.7% 3.3% 4.1% 36%
Paycom 70.2% 6.6% 26.7% 31.1%

Data Source: Company 10-Qs and Zacks Investment Research.

The first major innovation since the 1970s

Invented in 1970, a relational database stores information so that it can be logically managed and retrieved. It works by linking together logically related keywords and phrases. The words "small," "medium," and "large," for example, would be data points that relate to a primary key entitled size. The language used to manage and retrieve information held in a relational database is called Structured Query Language, or SQL.

This straightforward system for manipulating information works great in a closed environment where the data is mostly homogeneous and retrieval demands are mostly linear-- like when the lady at the DMV pulls up your driving record. But all of that changed when the information superhighway started humming along.

The internet radically changed the nature of software applications and how database management systems deal with them. Remember that the internet is "the web," and the internet produces data retrieval inquiries in a non-linear way. In this lively environment, SQL-based relational databases are not as efficient as they used to be because applications have to be highly iterative and dynamically flexible. You can blame that on people like you and me clicking our mouses and tapping our mobile devices about 3.8 billion times a day. SQL-based relational databases were not built to support this level of volume, variety, and velocity. Enter MongoDB.

MongoDB produces the leading database platform that doesn't rely solely on Structured Query Language. In fact, it can run using a number of different query languages. As a result, MongoDB gives developers huge flexibility they can't get in traditional database systems. It also provides greater scalability and better performance.

MongoDB is disrupting the worldwide software database market, which is huge. The company's most recent 10-K points out that research firm IDC pegs the market's value at roughly $64 billion right now. It's expected to grow at an impressive compound annual growth rate (CAGR) of about 9.5% over the next few years. And developers are adopting MongoDB faster than the next 3 competing databases combined. Google Trends data indicates that "MongoDB is growing significantly faster than any other technology in Big Data since June 2009."

Hold on, let me connect you 

As many of us can attest to, waiting on hold, being transferred to the wrong department, or getting disconnected as the person on the other end of the phone "checks our records" can be extremely frustrating. Luckily, there is a company that has automated the call center function in a very "cloudy" way.

Five9, Inc. is the leading cloud platform provider for contact centers. They automate inbound, outbound, and web customer interaction and engagement. With all the seemingly complicated tech advances the cloud brings to the world, Five9's end product is remarkably straightforward. They sell a platform designed to put customers in touch with the right person when they call or click in. And they are also crushing it!

Five9's revenue has grown at a CAGR of 33% between 2009 and 2018 and based on company guidance, and that rate is expected to continue through the remainder of 2019. But that's just scratching the surface. According to IBISWorld, the Telemarketing & Call Center Industry in the US is currently a $28 billion market. Five9 is the leading cloud provider in the market and has been named by Gartner as the top "Contact Center as a Service" provider four years in a row. Right now, total cloud penetration of the market is still less than 15%, so there is lots of opportunity for growth.

It is also important to note that Five9's platform is large, scaleable and difficult to duplicate. They have a big leg up on their competition and continue to widen the barrier to entry they have created. Five9 spends more than 20% of their gross profit on research and development and plan to increase that investment. They are growing their sales force as they continue to gain traction with integrators.

Making smartphones smarter

If you're like many Americans, you wake up and instantly look at your smartphone. You check the news, weather, traffic, maybe you read my stuff on Fool.com; whatever. Consumers have become used to interacting with all manner of data through lots of devices, particularly their smartphones. But there is typically no way to interact with their personnel data at work, particularly with their smartphones. In general, employees cannot see in real time information about their payroll, benefits, or a whole host of other HR-related data unless their employer uses Paycom.

Most employers don't share this information with employees because it isn't stored in one easy-to-access database. It's scattered across a bunch of different departments that may or may not talk with each other, and may not even share data with one another. This is the problem Paycom solves, for both employers and employees eager to see their pay stubs (and other documents) in real time, from anywhere, on any device, including their smartphones.

Paycom Software, Inc. is the fastest growing cloud-based Human Capital Management (HCM) application provider serving companies with 50-5,000 employees. They provide companies with a simple solution that integrates multiple system functions (talent acquisition, HR, payroll, benefits, training, etc.) into a single database that eliminates the multiple department layers that exist between employees and the information they need over the course of their careers. In other words, Paycom empowers employees to optimize their benefits, get answers to questions, and solve problems over the course of their careers from recruitment to retirement.

The value Paycom provides comes from automating multiple internal activities that are typically served by various different vendors. They help companies streamline operations to significantly reduce costs. This is augmented by empowering employees to use the technology. The Paycom service allows employees to interact directly with their data to quickly achieve results instead of making phone calls, scheduling meetings, or exchanging multiple emails that would otherwise consume vast amounts of time and company resources. This creates a huge barrier to entry, as no other cloud software provider offers a similar approach. And Paycom is the fastest growing provider in this space. Given that Grandview Research estimates the HCM market will be worth more than $30 billion by 2025 suggests that there's plenty more growth in Paycom's future.

So, long-term investors with appropriate risk tolerance should consider owing MongoDB, Five9, Inc., and Paycom Software, Inc. Each of these cloud computing stocks is a leader in their respective industry. And each of them could produce above market returns for years to come.