Digital transformation is a hot topic on Wall Street. This broad term encompasses everything from the digitization of manual or paper-based processes, to the modernization of outdated technologies. For example, enterprises are digitizing things like commerce, communications, and customer engagement.
More to the point, Cloudflare (NET 2.36%) provides the infrastructure that powers these trends. Here are three reasons this tech stock could help you build long-term wealth.
Image source: Getty Images.
1. Big market opportunity
Cloudflare's mission is to build a better internet. Its global platform spans 200 cities across 100 countries, creating a network with 90 terabits per second (Tbps) of capacity. This architecture puts Cloudflare's servers within 100 milliseconds of 99% of internet users worldwide. In short, this helps clients accelerate the performance and security of critical applications, websites, and workloads, while eliminating the need for costly on-site hardware.
For instance, Cloudflare Teams is a zero-trust security solution that helps clients protect internal resources. Cloudflare Pages is a tool that allows enterprises to build and deploy fast, secure websites. And Cloudflare Workers is a computing platform that enables developers to write code directly on the Cloudflare network.
In practice, these products address a range of use cases across virtually every industry. For instance, Cloudflare supports remote work by enabling employees to securely connect to corporate networks from any device or location. The company also helps its clients create a fast digital experience for their own customers, whether that's as simple as a responsive website or as complex as an AI-powered application.
To that end, management puts Cloudflare's market opportunity at $100 billion by 2024.
Image source: Getty Images.
2. Competitive advantage
Cloudflare faces tough competition from other content delivery networks like Fastly and Akamai, as well as public cloud providers like Amazon and Microsoft. Even so, Cloudflare has continued to grow rapidly, due in large part to two competitive advantages.
First, its platform is cloud agnostic, meaning Cloudflare is not biased toward any particular public cloud. In fact, its network supports a multi-cloud strategy, allowing clients to avoid vendor lock-in and work with the providers of their choosing. Specifically, Cloudflare routes traffic through the internet in the most efficient way possible, meaning clients can inexpensively manage and move data between multiple public clouds from a single platform.
Second, in order to ensure performance and reliability, Cloudflare has built a network with massive capacity. To utilize idle bandwidth, the company offers a free tier, meaning potential customers can try products before they buy them. Of course, this helps Cloudflare win new clients, but it has also resulted in massive scale.
In fact, Cloudflare powers 17.4% of the internet today. By comparison, Fastly and Amazon power 1.3% and 1.2%, respectively. This makes Cloudflare a valuable partner to internet service providers (ISPs). These ISPs allow Cloudflare to store hardware within their data centers, which results in reduced bandwidth and co-location expense. Put another way, Cloudflare's scale creates cost advantages, which means the company can aggressively invest in its business.
3. Strong financial performance
In recent years, Cloudflare has benefited from strong demand as digital transformation has become a bigger priority for many enterprises. In fact, since going public in 2019, the company's net retention rate has remained at or above 115%, meaning the average customer has spent at least 15% more each year.
Over the same period, Cloudflare has also grown its customer base quickly, and that dynamic -- more customers compounded by increased spend per customer -- has translated into strong top-line growth.
|
Metric |
2019 |
Q2 2021 (TTM) |
CAGR |
|---|---|---|---|
|
Customers |
82,882 |
126,735 |
33% |
|
Revenue |
$287.0 million |
$530.6 million |
51% |
Data sources: Cloudflare SEC filings, Ycharts. TTM = trailing 12 months. CAGR = compound annual growth rate.
Also noteworthy, while Cloudflare is losing money on a GAAP basis, the company pumped out $24 million in cash from operations over the last 12 months, meaning its business is headed in the right direction. And during the recent earnings call, CEO Matthew Prince said he expects to reach breakeven by Q1 2022.
However, Prince also emphasized Cloudflare's commitment to long-term growth, meaning any excess cash will be reinvested into the business. So, investors shouldn't expect GAAP profitability in the near term.
Here's the big picture: Cloudflare has a massive market opportunity, a strong competitive position, and its platform is clearly resonating with clients. Moreover, management appears to be focused on long-term success rather than short-term gains. That's why I think this tech stock could double (or more) in the next five years.
