Content is king, and the Internet is the kingdom. The Internet would be a pretty desolate landscape without its content, but despite the increasing importance of content-delivery networks, or CDNs, in facilitating today's content-heavy Internet, market leader Akamai (Nasdaq: AKAM) has been beaten down to new 52-week lows. Shares are down roughly 46% from the multiyear high they reached last December. The company has provided disappointing guidance not once but twice recently, calling into question its growth prospects.
The dynamics of Akamai's business model are under fire from all sides. To an extent, large media companies view content-delivery services as a commodity, which reduces the company's pricing power when competing with rivals such as Limelight Networks (Nasdaq: LLNW) and Level 3 Communications (Nasdaq: LVLT). These price declines have been putting consistent pressure on margins. The company's gross margin has declined from 78% in 2006 to 70.3% last year. Even the mere suggestion that Limelight and Level 3 may be eating some of Akamai's cake is enough to rattle Akamai investors.
Value-added services, such as advertising analytics, application performance, and dynamic site solutions, contribute the majority of Akamai's sales and have been the area where the company has been trying to differentiate itself from competitors. Recently, major network carriers including AT&T (NYSE: T) and Verizon (NYSE: VZ) have dipped their toes into the space. In April, Verizon launched its Digital Media Services platform for media management and distribution, while AT&T launched its very own CDN platform, with its own set of value-added services, last month. AT&T and Verizon are some pretty big contenders to have stepping into your ring, particularly since Verizon is currently also an Akamai customer.
Akamai needs to seriously beef up its defenses if it's going to fend off these threats. With the stock's P/E sitting at 31, the market is expecting some growth and profitability. Even though the company plays a vital role in making the Internet what it is today, I believe it needs more of a sustainable competitive advantage to maintain leadership. If the industry is doomed to compete only on price, then that's a war that everyone loses.
