Frequent reports of massive hacks and stolen data serve as stark warnings in a world where interactions are becoming more and more digital. So with more workplaces going remote recently, tech companies that safeguard our information could be a smart place to invest. One star example might be the data and security company Cloudfare (NET -0.02%). It launched in 2010 on a mission to help build a better internet, and its stellar growth since then only confirms its potential.
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Blazing a new path for a better internet
Cloudfare essentially helps millions of websites to run efficiently and securely, by acting as an intermediary in routing site traffic through a network of 200 data centers in 95 countries to deliver it faster and more safely. The company also shields customers from attacks, such as the infamous data-packet flood called a distributed denial of service (DDoS).
Cloudfare is completely subscription-based and offers a serverless architecture for subscribers that loads data traffic securely across multiple centers. In layman's terms, this business model allows customers to scale up as traffic increases without requiring investments in expensive physical servers. On Cloudfare's end, the unified code base and distributed nature of its traffic management means that the company can dynamically scale for increased demand as needed. This means that the company has a low fundamental cost structure, different from legacy companies that first and foremost invest in expanding their data centers before they can accommodate future customer growth.
As a cloud-based company, Cloudfare also follows the popular freemium model, with limited access and protection offered for free, and pay-as-you-go charges for more extensive traffic and premium services. Enterprise customers are priced separately to account for tailored needs and plans. Given this, the company is able to price its plans to adapt to wide-ranging customer needs, providing such clear value that customer retention on a dollar-value basis consistently exceeds 100%.
Four-year history highlights strong appeal
Cloudfare constantly reinvests in its products as part of its strategy to capture more of the market, and this approach has proven how valuable the company is over the past four years.
Image source: Cloudflare
From 2016 to 2019, total revenue grew rapidly from $84.79 million to $287 million, at a 50% compound annual growth rate. At the same time, the company demonstrated its ability to allocate its resources more efficiently over time, pulling in more large customers to balance out the smaller and mostly independent free users at the bottom of the customer pyramid funnel. Large customers who contribute more than $100,000 each in annualized revenue grew from 197 to 556, a 182% increase over those four years.
Even better, Cloudfare has a huge market of potential clients, and even in its toddler stages, the company is operating at a massive scale of operation. Through its numerous internet access points, Cloudfare reaches 2.8 million customers around the world. Paying customers include 13% of the Fortune 1000 list.
Because of its serverless approach to processing and securing data, Cloudfare boasts a stunning trailing-12-month gross profit margin of 77%. That could possibly translate to solid net profits if the company were not so focused on its intensive growth strategy.
Unlike its competitors, the company focuses on offering a single platform that ties together on-premise, cloud, hybrid, and software-as-a-service infrastructure. Cloudflare not only develops its own protocols to process data securely and quickly, but it also allows and encourages customers who use competing products to unify and control everything through Cloudflare itself.
In a way, this product strategy elevates Cloudfare above being just another competitor -- it disrupts the very model that could limit the company's path forward, and it converts that limitation into a beneficial factor for future growth.
Some points to consider
Cloudfare follows a typical tech start-up structure, fueling its intense growth with equally high amounts of spending. So it's important to note that operating expenses have been increasing very quickly, from $77.9 million in 2016 to $331.5 million in 2019, amounting to a 326% increase over four years. As a result, absolute net losses have deepened over that same period, from -$17 million to -$105.83 million, even as total assets have increased fourfold to $830.8 million in value.
Image source: Cloudflare
The good news, though, is that sales and marketing costs make up nearly 50% of all operating expenses, and they're fueling the company's high growth rate. Sales and marketing costs could be potentially scaled back if necessary, which would likely slow Cloudfare's rapid growth, but would not hurt the company's core business operations. And despite 2019's net losses, Cloudflare's available cash at the end of that year totaled $636.95 million, and working capital was $605.99 million, indicating the company has the resources to cover its growth costs. In short, Cloudfare is not hurting for cash or sales, and its net losses seem to be mostly due to the company's efforts to speedily expand its market presence.
Overall, Cloudfare can be considered a model study in technology start-up growth, and its huge potential market offers a strong case for future expansion. It provides solid value to customers at a decent and flexible price point, and it is able to consistently reevaluate its products to address customer needs as technology evolves. Rather than say that this tech stock has the ability to disrupt the market, it might be better to say that Cloudfare is already doing it.
