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November 28, 2011
Volume XXXVII, Issue 6

Consumer's Love Affair with Gadgets Marches On

Phoenix Marketing International (PMI) is partnering with the DCIA to support the CONTENT IN THE CLOUD Conference within CES this January.

Market research with over 1,000 teens and adults has been collected and will be used to support the various presentations and panel discussions throughout the program. There will also be a keynote address which features the major headlines derived from the research.

Consider some sneak previews concerning consumer sentiment and appetite for consumer electronic gadgets:

Today about 3/4 of all teens and young adults believe technology products have a very strong influence in defining them and their lifestyle. Looking at older adults reveals about 4-in-10 feel the same way!

The research also looked at the anticipated purchases of a whole host of consumer electronic (CE) products ranging from mobile phones to computers to MP3 players. So which product came out on top? Tablets are the big winner for the hot test segment of teens and young adults. About 40% of this group expected to buy one in the next 6 months! By comparison laptops came in about half as strong at 18%

Finally, consumers are changing their media consumption habits. Almost 1-in-4 of all respondents is streaming content to their laptops. Desktop streaming is at 16% and tablets at 8% and climbing! Streaming to smart phones is at 5%

Joe Porus, VP, Converged Technology & Media, PMI commented on the findings, "We are in the early innings of a media consumption revolution. New choices in devices and delivery platforms have consumers experimenting and forming fresh behavior patterns. We are looking forward to discussing the implications at CES in January!"

Over Half of Viewers Watch TV Shows, Movies Online

Excerpted from Broadcasting & Cable Report by George Winslow

An annual study of consumer video consumption habits conducted by Frank N. Magid Associates reveals that more than 50% of online consumers watch TV shows and movies online at least occasionally. Yet as online viewing becomes more widespread, the usage of on-demand, DVR, and DVD platforms also continues to grow. 

In fact, the survey found that the more alternative platforms that consumers use to watch video, the more they tend to spend on traditional TV subscription services. 

The survey also found that satisfaction with HD service is at an all-time high among customers of pay television providers, including cable, satellite, and telco TV. 

Despite ongoing economic problems, consumer plans to purchase new TV sets have climbed back to pre-recession levels and that they were particularly interested in smart TVs that have an Internet connection for accessing content, Magid researchers report. 

Forty percent of consumers indicate they will shop for a new TV set in the next year, up significantly from a low of 23% in 2009. 

Superior display, wide-screen format, and Internet connectivity topped the list of TV set features that consumers are most interested in, while interest in 3D declined from last year. 

An impressive 62% of TV shoppers said Internet connectivity is an important factor in their decision to purchase a new TV. 

"Consumers have been streaming TV shows and movies to the TV screen enabled by a very diverse set of devices, including game consoles, computers, streaming specific devices like Apple TV and Blu-ray players, so an Internet-connected Smart TV is the desirable next step", noted Maryann Baldwin, VP of Magid Media Futures and author of Magid's tenth annual survey of consumer video entertainment behaviors and attitudes towards traditional and emerging delivery platforms. 

Consistent with the demand for high-quality displays, the intention to purchase HDTV sets continues to run strongest, while the proportion of those who plan to buy a 3D set has dropped significantly over the past year from 67% to 49% of all TV shoppers. Three percent of households now own a 3D TV set. 

The study is based on a nationally representative sample of 1,530 online consumers aged 12 years and older in late October.

Report from CEO Marty Lafferty

Photo of CEO Marty LaffertyThe DCIA commends Fight for the Future, a new organization that with very little lead time mounted American Censorship Day in opposition to the ill-conceived HR 3261 Stop Online Piracy Act (SOPA) in the US House of Representatives and S 968 Protect IP Act (PIPA) in the US Senate.

We support this movement's battle-cry, "Don't Break the Internet."

If these draconian laws had been passed ten years ago, we would not have such innovative services as YouTube and Facebook. The start-ups that aspired to become these companies would have been forced to spend impractically large sums of money in order to try to avoid prosecution - and ultimately would have been shut down anyway.

The massive grassroots support that came out to protest these woefully misguided and terribly over-reaching bills included over a million e-mails to Congress and close to 100 thousand phone-calls.

Despite enormous expenditures by Hollywood interests to see SOPA/PIPA enacted, the public uprising against these measures suggests that elected officials should not underestimate the scope of voter opposition to attempts to censor the Internet.

This level of consumer involvement reflects two trends in our view: first, a growing resentment of the way old-school entertainment rights-holders mistreat their viewers - with mistrust and disrespect, suspecting that they have lawless intent, and seeking to control and limit their activities; and second, a growing appreciation of the way a new wave of Internet-based companies treat their users - with trust and respect, connecting them to communities of interest, and seeking to enable and empower them.

While people may be willing to put up with gatekeepers in order to gain access to attractive content, they truly love innovators who allow them to do new things, such as play and share that content in ways that weren't possible before.

The DCIA strongly supports copyright, but just as strongly opposes SOPA/PIPA. In addition to the million+ US citizens who have spoken out, this legislation is also opposed by prominent software and cloud computing brands such as Amazon, AOL, eBay, Facebook, Google, LinkedIn, Mozilla, Reddit, Twitter, and Yahoo.

Some of these entities have sponsored a full-page ad in the NY Times to express their opposition.

Nancy Pelosi, former Speaker and traditional Democrat, joined Ron Paul, GOP presidential candidate and traditional Libertarian, this week, in opposing SOPA. On Tuesday, ten members of Congress signed a "dear colleague" letter expressing their concerns.

And now, the Business Software Alliance (BSA), representing Adobe, Apple, Intel, and Microsoft has joined the growing number of technology sector participants opposing the legislation.

On the one hand, these bills are too broad not to inadvertently harm legitimate innovators - and even damage the workings of the Internet itself; and on the other, they are too poorly constructed not to be able to be readily circumvented by willful copyright infringers.

These measures would foster litigation against law-abiding technology firms, discourage research and development, and worsen unemployment. They would grant unprecedented powers to record labels and movie studios literally to destroy software companies without due process - even where suspected contributory copyright infringement proves to be unfounded.

We believe that constructive actions, and in particular new business models and technological solutions, can and should simultaneously protect copyright and innovation. We invite the creative community to join with us in that work based on a sound understanding of the workings of the Internet, as well as the underlying integrated hardware and software involved in digital content delivery.

If enacted, SOPA and PIPA would render the Internet itself economically untenable by holding broadband network operators and other Internet service providers (ISPs), search engines, and user-generated content (UGC) websites liable for other people's alleged copyright infringement.

The proposed legislation targets not just actual infringers, but anyone suspected of being associated with them - payment gateways, sponsors, and even sites that just link to them. The bills would result in entire websites being blocked due to infringement alleged to be associated with just a small sub-section.

Though the measures supposedly were not designed to censor the Internet, censorship would be the outcome, as false positives and false infringement claims would block access to millions of non-infringing sites. Due process, free speech, and privacy rights would be trampled upon and ultimately abandoned with SOPA/PIPA.

But before things could even escalate to that level, self-censorship would silence voices online that feared the consequences of being associated with possible infringement.

The way these bills define "US websites" is so broad as to cover most of the Internet itself. For example, the simple act of any US citizen using a website overseas would immediately give the US federal government the power to potentially take action and block access to it.

The DCIA agrees with the Protect Innovation open letter from major technology sector players:

"Unfortunately, the bills would expose law-abiding US Internet and technology companies to new uncertain liabilities, private rights of action, and technology mandates that would require monitoring of websites.

We are concerned that these measures pose a serious risk to our industry's continued track record of innovation and job-creation, as well as to our nation's cybersecurity.

We cannot support these bills as written and ask that you consider more targeted ways to combat foreign 'rogue' websites dedicated to copyright infringement and trademark counterfeiting, while preserving the innovation and dynamism that has made the Internet such an important driver of economic growth and job creation."

We urge DCINFO readers to help abolish these bills, and to prevent other, similar measures from being passed by changing the Constitution to protect Internet access. Share wisely, and take care.

Senator Wyden May Filibuster Copyright Bill

Excerpted from Network World Report by Grant Gross

The Protect IP Act (PIPA), which would allow the US Department of Justice (DoJ) to seek court orders focused on shutting down websites accused of copyright infringement, could come up for a vote in the US Senate by early December, and one Senator is threatening to filibuster the bill.

Senator Ron Wyden, an Oregon Democrat, has talked about a filibuster, with the bill likely to come before the full Senate in the next few weeks. During a filibuster, a Senator continues to speak on the Senate floor, preventing the Senate from moving forward on a piece of legislation.

It's unclear whether Wyden could rally the 41 votes he would need to maintain the filibuster if backers of PIPA called for a cloture vote. Forty of the 100 Senators are sponsors of the legislation, which would allow the DoJ to seek court orders requiring search engines and Internet service providers (ISPs) to stop sending traffic to websites accused of infringing copyright.

The Senate Judiciary Committee unanimously voted to approve PIPA (or the "Preventing Real Online Threats to Economic Creativity and Theft of Intellectual Property Act") in late May, two weeks after it was introduced.

Wyden, working with liberal activist group Demand Progress, has asked opponents of PIPA to sign their names at StopCensorship.org, with the plan to read the names of opponents during a filibuster. In the first 24 hours after Wyden's request, more than 50,000 people had signed their names, according to Demand Progress.

PIPA and the Stop Online Piracy Act (SOPA), a similar piece of legislation in the US House of Representatives, would do "lasting damage" to the Internet, Wyden said in a video posted on StopCensorship.org.

"The at-all-cost approaches that these bills take to protecting intellectual property (IP) sacrifices cybersecurity while restricting free speech and innovation," he added. "Congress needs to hear from more than the lobbyists who helped write these bills. Congress needs to hear from people like you, who understand the value of a fair and free Internet."

In addition to the DoJ requests for court orders, PIPA would also allow copyright holders to seek court orders requiring payment processors and online ad networks to stop doing business with allegedly infringing websites. Opponents of the bill say it could lead to legitimate websites targeted by copyright holders and could create online security problems as web users circumvent blocks by ISPs and search engines.

Senator Patrick Leahy, a Vermont Democrat and lead sponsor of PIPA, discounted opposition to the bill. Leahy and other supporters of the legislation say it's needed to combat online "piracy" and counterfeit websites operating overseas.

"The Protect IP Act is sponsored by 40 Senators on both sides of the aisle - few pieces of legislation can boast that kind of bipartisan support," he said in a statement. "I expect that support will continue to grow when the majority leader schedules floor consideration of this important bill, which will promote America's economy and protect American consumers."

DCINFO Editor's Note: Call Senator Leahy's office now at 202-224-4242 to voice your opposition to PIPA. Call Senator Wyden's office at 202-224-5244 to express your support for the filibuster.

Global Cloud Computing Services Market to Reach $127 Billion by 2017

Cloud computing is an emerging paradigm computing concept that enables both information technology (IT) infrastructure and software to be delivered directly over the Internet as a service.

This arrangement, whereby companies can expand network capacity, and run applications directly on a vendor's network, offers a host of advantages with the most primary being radically lower IT costs.

The lower budgetary requirements and commitments allow even smaller companies to piece together an IT project without spending on purchasing legacy server and storage systems.

Additionally, the burden of developing and maintaining the technological expertise required in running the network is transferred to the service provider. The pay-per-use basis of cloud computing helps transform the way IT departments create and deploy customized applications during these difficult times.

By offering a more cost-effective, less risky, and fundamentally faster alternative to on-site application developments, cloud computing is poised to transform the economics of information technology in the next few years.

With the Internet being a foundation for cloud computing, the term "cloud" is used as a metaphor for the Internet. Thanks to new and improved networks, the Internet is fast emerging into vehicle for delivering computational requirements.

The ubiquity of the Internet and the widespread availability of high-speed broadband access are the primary factors driving the movement towards the cloud. Although still a small percentage of the total IT spends, cloud services are strong drivers of incremental growth.

The recent economic recession saw hordes of companies take to cloud computing as a cost saving strategy. Cloud computing came as a boon for companies during tough economic and financial climate, given that the technology can potentially slash IT costs by over 35%.

The bad economy fed the global cloud computing services market as cash, and revenue starved companies prowled for IT solutions that are cost-effective, require minimum to zero investments, and low management of computing resources.

Technically, the feature of multi-tenancy, or the ability to scale up or scale down services on demand, makes fiscal sense in tough economic climate. And with cloud computing fitting the bill in every respect, the business case for the technology stands exemplified. In short, recession became the push factor, which tripped the market into the mass adoption stage.

As the world economy navigates its way through recession and towards recovery, organizations will still retain their appetite for cost effective solutions, but will however demand more value-creating productivity.

Against this backdrop, cloud computing stands poised for post recession boom. Shifting priorities among limited budgetary constraints will make it critical for market participants to closely follow spending patterns to understand areas where companies will be spending their precious funds.

Given the fact that cloud computing services help companies scale up or scale down their computing requirements and resources through public, private and hybrid clouds, the value proposition offered is overwhelming. Companies that will consume the most cloud services are expected to be those operating in a commoditized business environment where constant product differentiation is a perennial need.

Growing recognition of economic and operational benefits and the efficiency of cloud-computing model promise strong future growth. As companies ease out gradually from the economic uncertainties and financial shackles, widespread adoption of cloud services is in the offing.

The pragmatic and successful adoption of this technology concept by early adopters will pave the way for mass enterprise adoption of cloud services in the upcoming years. The transition of enterprises from virtual machines to the cloud will additionally extend the impetus required for strong growth. Poised to score the maximum gains will be end-to end cloud-computing solutions that offer complete functionalities ranging from integration of internal and external clouds, automation of business critical tasks, and streamlining of business processes and workflow, among others.

Future growth in the market will be primarily driven by growing adoption of enterprise mobility as a key IT strategy among new age companies. With most of the modern business houses exploring opportunities globally, business operations in recent years are moving beyond corporate boundary walls.

Global mobile worker population is also expected grow at a considerable pace in the coming years. Given the need for mobile workforce to constantly remain in touch with corporate headquarters and access business information even when away, the demand for productivity solutions such as collaboration and communications suites, IM, document sharing e-mail, and Web conferencing, which are hosted on the cloud but are accessible to a mobile workforce via browser on mobile devices, is growing at a robust pace.

Growth in the market will also be driven by the need for companies to ensure business continuity. With most businesses perceiving traditional in-house data backup infrastructure as insufficient in safeguarding critical corporate data from system failures, theft, vandalism, floods and fire, offsite backup infrastructure are magnetizing enormous interest and investments.

Against this backdrop, cloud computing and web hosted storage plus backup options are increasing in popularity as companies' race to online vaulting service providers to hedge the risks associated with the unknown future.

Cloud computing, as a low cost alternative to traditional data backup storage options, is emerging into a viable option for business continuity and disaster data recovery management for both small-medium and large-sized businesses. Growth in the cloud computing market will also be driven by growing adoption of technology among small and medium enterprises (SMEs). Charmed by the prospect of gaining access to such high-end technologies, whose adoption until recently were largely limited to huge multinationals with strong financial muscle, SMEs have been increasing their investments on cloud computing.

As stated in a new market research report on Cloud Computing Services, the United States remains the largest regional market worldwide. The report also enumerates recent acquisitions, and other strategic industry activities. The report offers demand estimates and projections for world Cloud Computing Services market by service verticals, Software as a Service (SaaS); Platform as a Service (PaaS); and Infrastructure as a Service (IaaS). Key geographic markets analyzed in the report include the US, Canada, Japan, Europe (France, Germany, Italy, UK, Spain, Russia and Rest of Europe), Asia-Pacific (Australia, China, India, South Korea and Rest of Asia-Pacific), Latin America (Brazil, and Rest of Latin America), and Rest of World.

Asia-Pacific is one of the fastest growing regional markets for cloud computing services, with revenues from the region waxing at a CAGR of about 35% over the analysis period. Growth in the Asia-Pacific market will be especially driven by the accelerated pace of developments in the enterprise sector, especially in emerging markets such as China and India, and the need for efficient solutions to deliver IT services. Infrastructure as a Service (IaaS) represents the fastest growing market segment by service type.

Key players in this marketplace include Akamai Technologies, Amazon Web Services, CA Technologies, Dell, ENKI, Flexiant, Google, Hewlett-Packard Development Company, IBM, Joyent, KloudData, Layered Technologies, Microsoft Corporation, Netsuite, Novell, OpSource, Oracle Corporation, Rackspace Hosting, Red Hat, Salesforce.com, Skytap, Terremark Worldwide, and Yahoo among others.

For more details about this comprehensive market research report, please click here.

Apple Is Recruiting Executives for Cloud Computing Division

Excerpted from ITProPortal Report by Erica Thinesen

Apple is reportedly on the look-out for senior executives to run its cloud computing division as it tries to reinvent the way people store their data using its iCloud service.

Citing people familiar with the matter, the Wall Street Journal revealed that Apple is planning to hire senior level executives with strong backgrounds in web-based software.

Sources revealed that Apple has already gotten in touch with at least one top level Internet entrepreneur since the start of the year and has also been in talks with recruitment agencies for the same.

The report comes as Apple is trying to centralize the manner in which its Mac and iOS customers store their data, allowing them to store documents, photos, videos, music and movies in the cloud, accessible from anywhere, instead of storing the data on different devices.

When the late Steve Jobs unveiled the iCloud platform in October, he had said the company planned to 'demote' the PC and Mac to being just devices while users stored all their data on the cloud, providing greater accessibility and freeing space on the machines.

Forget Connected TVs - Viewers are Turning to Tablets and Smart-Phones

Excerpted from TelecomTV One Report by Guy Daniels

Accelerating adoption of tablets such as the iPad is dramatically shifting TV viewing habits, and mobile TV might just have found its true calling.

A new survey commissioned by video service management specialist QuickPlay Media suggests that more than half of UK consumers have watched TV or movies on mobile devices and that this trend is accelerating - both for 'live' and on-demand programs.

The study, which was conducted by Redshift Research, found that 76% of 18-44 year olds say that they watch more TV on tablets and mobiles than just one year ago.

The majority of respondents (51%) reported having watched a TV program or film on a mobile device such as a smart-phone or a tablet. These 'mobile TV' watchers preferred to view on demand TV (44%) compared to 28% who preferred to use mobile devices to watch live programming. Although most consumers watch mobile TV at home, 39% said they watch TV on mobile devices while commuting.

A recent Gartner report estimated that worldwide tablet sales will exceed 63 million units sold in 2011, representing a 261% increase over 2010. Mark Hyland of QuickPlay Media said that we are in the midst of a transformation of the way consumers watch programs: "The explosive growth of tablets is driving a tremendous demand for service providers to increase the amount of premium mobile content they offer to their subscribers."

The report also found that TV episodes are the most frequently viewed type of content with nearly 60% of respondents indicating that they use mobile devices to watch catch-up TV, closely followed by sporting events and news.

Perhaps given the ergonomics of the iPad - larger than phones, bigger screen, more suitable to using whilst seated, etc - tablet device users watch mobile TV for far longer time periods than on smart-phones.

20% of tablet device users reported having spent more than an hour of uninterrupted time watching a TV program or a movie.

There's also a degree of loyalty emerging from the current generation of mobile TV users, with 33% of respondents reporting they watch at least once per week and 12% viewing almost every day.

What appears to be missing from the research are clues about viewers use the connectivity offered by wireless devices to interact with the programs and share their experiences with other online viewers. With Google about to make another push at the Connected TV, with support from Samsung, the big debate at the moment centers around which comes first - the connectivity and interaction or the viewing device? In other words, do you place the connectivity within the traditional TV set, or do you place the TV within a connected and personal device?

After years of floundering and many false starts, mobile TV may have found its market - it has less to do with transmission technologies like DVB-H, and far more to do with enhancing the viewing experience. Interest is high, with the QuickPlay survey reporting that over 75% of respondents would like their service provider to invest more in their mobile TV services.

However, others in the industry continue to push the transmission technology, in yet another attempt to baffle the audience, certainly in the US at least (remember the now defunct MediaFlo from Qualcomm?).

On January 1st next year, a new mobile TV standard will come into effect. ATSC-M/H (Advanced Television Systems Committee - Mobile/Handheld) offers broadcast, real-time, live transmission of TV shows, with major broadcasters such as NBC and Fox amongst the first to roll out mobile-ready programming. Developed by the Open Mobile Video Coalition, it will be marketed as Mobile Digital TV (MDTV) - effectively an upgrade to the coalition's earlier attempts at mobile TV.

It's not a million miles removed from Europe's troubled DVB-H standard, as it comes from the broadcast sector and not telecoms. This isn't a bolt-on to 3G or 4G technology, it's standalone. It's a free-to-air extension to the existing terrestrial TV system that operates in the US.

However, it needs a dedicated hardware receiver module for it to work, which means it needs the support of phone manufacturers. With the new standard coming out in January, the industry (not just phones, but also video players, in-car units, USB dongles and emergency response devices) is adopting a 'wait and see' approach. Product should start arriving in shops in the middle of next year.

Whether the US MDTV will fare better than MediaFlo, or indeed Europe's DVB-H, is highly debatable.

The Best Cloud-Computing Firms

Excerpted from Barron's Report by Jeffrey Houston

Public cloud computing/software-as-a-service (SaaS) companies have evolved considerably since we began covering the sector nearly a decade ago. They are at various stages with their growth, profitability, and size.

The median public company calendar 2013 estimated revenue growth is 20%, earnings before interest, taxes, depreciation and amortization (EBITDA) margin is 21%, and fully diluted enterprise value is about $830 million.

This compares with calendar 2012 estimated-revenue growth (including acquisitions) of 22% and EBITDA margin of 21%.

Our coverage companies' results were mostly in line in the third quarter. SPS Commerce and NetSuite had notable strength in both revenue and earnings per share. SciQuest's revenue came in at the low end of guidance due to a delayed state contract, but EPS were above expectations.

The overall SaaS group's calendar 2012 revenue and EPS estimates are largely unchanged over the past six months. But, compared with this time last year, revenue of the group (including RightNow Technologies, SciQuest, and SPS Commerce) increased 8% and EPS was unchanged. Constant Contact's consensus has changed as it provided conservative revenue guidance, DemandTec's due to two dilutive acquisitions, and NetSuite's as it reinvests to meet demand.

Over the past three months, RightNow (up 42%), Constant Contact (up 35%), SPS Commerce (up 31%), NetSuite (up 30%), and DemandTec (up 23%) have significantly outperformed the SaaS group's 13% increase and the Nasdaq's 3%.

The group's performance tends to be about two times the Nasdaq's - year-to-date (YTD) it is up 10% (versus the Nasdaq's 2% drop), 2010 was up 56% (versus 17%), 2009 increased 73% (versus. 44%), and 2008 declined 51% (versus down 41%).

As a percentage of float, the overall SaaS group's short interest is 9%. Most of our coverage list is in line with the group, except Constant Contact's 23% and NetSuite's 15% are notably higher.

As demonstrated by Oracle's pending acquisition of RightNow for $1.5 billion (announced October 24th) and Providence Equity Partners' purchase of Blackboard for $1.6 billion (closed October 4th), we expect consolidation to continue in the software sector.

Among our coverage list, we view Constant Contact, DemandTec, and Netsuite as the most likely to be bought. Besides being takeout candidates, most of our covered companies have made an acquisition in the past year.

Software remains a focus for the venture-capital community - in the third quarter there were 263 investments for $2 billion in total, the highest dollar amount in 10 years. Since 2002, there have been about 230 investments per quarter for $1.3 billion.

We maintain our Outperform ratings on SPS Commerce, Pandora Media, and SciQuest, viewing them as good companies at reasonable prices; as well as Constant Contact, DemandTec, and Vocus as attractively priced.

We continue to rate NetSuite at Market Perform, purely because of its high valuation.

Lastly, we lowered our rating on RightNow to Market Perform given the pending takeout; the stock had increased about 45% since we initiated in August.

We are increasing our price targets for SPS Commerce (to $27.50 from 22.50) and DemandTec (to $9.50 from $7.50).

Cloud Investing, Buffett-Style

Excerpted from Wall Street Journal Report by Jack Hough

For a way to invest in "cloud computing" without paying a stratospheric price, take a cue from Wall Street's newest tech enthusiast: Warren Buffett.

Mr. Buffett, who has long avoided computing stocks while favoring railroads, soft drinks and insurance, announced this week that his Berkshire Hathaway has amassed a $10.7 billion stake in International Business Machines (IBM), making it the second-largest shareholder.

Last year, the century-old tech giant announced a goal to boost yearly cloud-computing revenues by $3 billion by 2015, to $7 billion. That is a sliver relative to its current total revenues of $106 billion, but it is an important source of growth.

IBM is a member of the ISE Cloud Computing Index. Launched in July, the index consists of companies "supporting or utilizing" cloud computing, according to its creator, the International Securities Exchange. Alongside the likes of IBM are younger pure-play companies such as Salesforce.com, Rackspace Hosting and VMware. One key difference: IBM sells for 14 times this year's earnings forecast, while the others fetch three to six times as much.

Cloud computing is a catch-all term for the shift of programs and data storage away from user machines and onto the Internet. Investors are enamored of the trend; the ISE index is up 277% over the past three years, versus 11% for the Standard & Poor's 500-stock index.

Investors can buy into the index via an exchange-traded fund offered by First Trust or an exchange-traded note from UBS that seeks to (gulp) double the index's monthly return using leverage.

But cloud investing carries big risk. The median of 40 ISE index members sells for 25 times projected earnings for its current fiscal year, nearly double the S&P 500 index median.

"It's shark-infested waters with some of the younger, high-price cloud stocks," says David Rolfe, Chief Investment Officer at Wedgewood Partners, a St. Louis asset manager. "If these companies stumble, the market reaction will be swift."

Consider Salesforce.com, a provider of web-based customer relationship management, or CRM, software, which allows companies to track customer inquiries and sales pitches. Its sales have surged in recent years and its shares until recently fetched more than 100 times earnings. But on Thursday the company projected a fourth-quarter profit that left investors wanting more. Shares fell 9% on Friday.

Well-diversified, less-expensive companies like Mr. Buffett's new prize offer a safer way to invest in cloud computing, says Robert Cihra, an analyst with Evercore Partners, a New York investment bank. Although its hardware sales expose it to broad spending downturns, its strong base of recurring service revenues offers protection, he says.

IBM also has "unique technologies for setting up cloud-based networks than can't be matched with commodity, off-the-shelf products," Mr. Cihra says.

Mr. Rolfe sees EMC, a seller of external storage systems, as a similarly undervalued cloud stock. "For cloud computing you need massive amounts of storage," he says. "EMC is the key arms merchant for companies that need more storage."

It also owns a majority position in VMware, which makes so-called virtualization software that helps companies get more use from the servers they own. But whereas VM Ware trades at 45 times earnings, EMC is at 15.

Joseph Doyle, a money manager with Morris Capital Advisors in Malvern, Pa., likes software giant Oracle, which long has enjoyed a big share of the CRM market and last month announced it will buy Rightnow Technologies, a Salesforce.com rival. "If there's a way to make money on the cloud, count on [Oracle Chief Executive] Larry Ellison to do it," Mr. Doyle says. Oracle sells for 13 times earnings.

Microsoft would seem to be under threat from centralized computing, since its programs run on millions of personal computers. But the company has launched its own cloud-computing platform called Azure; has tailored its forthcoming Windows 8 operating system to work better on tablet computers; and has launched Office 365, a cloud-based version of its lucrative productivity software.

"The market under-appreciates how big a move they've made into the cloud," says Mark Moerdler, an analyst with Bernstein Research. Office 365 should keep large customers happy while convincing small ones using old or pirated Office versions to pay small monthly fees for access, he says.

Microsoft has a price/earnings ratio in single digits and offers something rare in the cloud: a juicy dividend yield of 3%, compared with a median of 2.3% for dividend-paying members of the S&P 500.

For some seasoned tech companies, the effect of cloud computing on profits isn't yet clear, Mr. Cihra says. Hard-disk makers like Western Digital Group and Seagate Technology stand to sell plenty of storage for servers but could sell less for personal computers, he says. The same holds for Intel with its computer chips.

Mr. Doyle says companies that can adapt will not only survive the cloud shift but thrive. "When I started in this business in the mid-1980s, I was told IBM wouldn't make it until the end of the century," he says. "That's all changed because of the Internet."

Economics of The Cloud - Can It Make Money? 

Excerpted from Forbes Magazine Report by Darcy Travlos

"The Cloud" is a high multiple phrase and participating companies are highly sought after by investors. As such, a variety of companies from Rackspace to Salesforce.com to Amazon are benefiting from investor exuberance. Is this a bubble? Is it "durable?" How does one make money in The Cloud?

Remember, The Cloud is a distributed computing architecture, meaning running virtual machines over the Internet. For investors, The Cloud can mean any software or service run outside the enterprise firewall, or Internet-based Anything As A Service.

From my perspective as an investor, I look at four broad categories of companies that contribute to The Cloud. The first category is the suppliers, such as semis, that contribute to the second category, the large-scale server/storage manufacturers. On top of the servers sit the third category of managed services and the fourth category of platforms/applications. This is a crude categorization because many companies are working toward expanding out their products and services across the spectrum.

Take the first category, the semiconductors. One key to efficiency in The Cloud is the processing power of the servers. The technology evolves according to Moore's Law with the processing power doubling every 18 months.

Server chips (i.e., INTC, AMD) can be very profitable because they are not subject to the same issues as desktop chips (also made by INTC, AMD). Desktop/PC chips are largely sold into the consumer market, and are sold in a highly commoditized product, differentiated mostly on price.

Thus, computer chips must be produced as inexpensively as possible in order to be sold as inexpensively as possible. It is a price competitive business.

Server chips, on the other hand, are sold to enterprise customers (i.e., HPQ, DELL, IBM, EMC) that, in turn, sell to other enterprises, with servers part of a bigger package and differentiated by processing power, etc.

These customers are less price-elastic because they are selling servers based upon performance. The economics of semiconductors depend upon their production, i.e., die size, cache and yield with the ultimate goal to build the "densest" processing on the smallest die size with the greatest yield per wafer.

These goals are more easily accomplished with computer chips because the processing "density" requirements are less than with server chips. Hence, the semiconductor companies supplying into and winning mandates in the server market are able to command higher margins, and are benefiting from increased demand in The Cloud.

The second category of the big server manufacturers is in a different boat. The hardware itself has devolved into a very price-competitive market with market share as the prize, not profitability.

To simplify it, the server/storage companies tend to offer a full range of hardware products into the enterprise and gain credibility by holding the top spot in market share. Sacrificing profitability in one area in order to gain credibility in a higher-margin area is often done with the hardware "given away" in order to sell services.

In The Cloud value chain, the server manufacturers are at the low end of the profitability totem pole.

The third category of managed services moves up the profitability curve from the server manufacturers, but it depends upon the services provided. The managed services companies, ranging from Amazon's AWS and AES to Rackspace, offer a variety of services from hosting at one end of the spectrum to full "Cloud" services at the other end.

Both are extremely capital intensive and hosting carries with it higher operating costs, resulting in lower margins, while moving toward services carries better margins. In order to host or provide managed services, a company needs to have large data centers and enough capacity to meet demand.

The issues are three-fold. First, building out data centers requires advanced planning and, in Rackspace's case, they must anticipate building to demand two years in advance. Second, capital expenditure in the equipment is extremely high and the technology advances at such a rate that it also requires updating over couple of years. Third, the physical infrastructure itself (real estate, energy optimization, telecommunication costs) is very expensive such that utilization becomes the driving goal toward profitability.

But, by definition of lead times and capacity, it takes years to get to close to full utilization.

Thus the quandary for managed services, and hosting in particularly, is in order to grow, one must be able to provide services to meet demand, meaning capital expenditures have to stay ahead of demand.

So, in order to grow, the company must spend at a higher rate than its growth rate thereby, in theory, challenging its cash flow. Should demand wane, the need for capital investment also eases. If revenues can stay ahead of diminished need to invest in equipment, then cash flow will improve; and the reverse would be true as well.

And, within the hosting to Cloud services range, hosting is more expensive to operate because it is basically customized for each customer. It will host a customer's own software and data, and requires significantly more manpower. On the other hand, pure Cloud offerings, where customers choose from a menu of standardized offerings, enable provides to spread costs out across a growing customer base as well as automate data and software management. As companies move across the spectrum from hosting to cloud services, margins improve.

Lastly, the fourth category of Cloud applications, such as Salesforce.com, generally have the greatest opportunity for higher margins as the value proposition to small and medium sized enterprises (SMEs), in particular, is strong.

SMEs can pay for only what they need, have access to more robust applications than they could develop cost efficiently in house, avoid an expensive IT staff and scale as needed. As these suppliers move up the customer scale from SMB to enterprise, their cost structure increases as the investment in their own sales force becomes, in effect, their own capital investment.

The challenge here, again, is to manage the selling costs or investment in growth. Fortunately for Cloud application providers, the investment in sales personnel can be more discretionary and variable, although the lead time is similar. Salesforce says it takes six to nine quarters for sales personnel to break even.

The economics of The Cloud are not obvious. There is no question that it is an emerging technology trend, not to be ignored. However, it important is to dissect where the sustainable profits are and to determine what stocks deserve outsized valuations.

10 Steps to Moving to the Cloud

Excerpted from Baseline Report by Zohar Gilad

Virtualization and cloud computing increase efficiency and flexibility in providing data and applications to users, yet managing performance of applications and transactions in the cloud is neither simple nor easy.

When you add another layer, particularly one that is highly dynamic in nature, assuring a high-quality user experience gets trickier when applications misbehave. It's harder to determine where an application or transaction was working when the failure or slowdown occurred, since virtual machines are provisioned and decommissioned continually according to business priority and demand.

You can no longer monitor an application in the context of its server. This slideshow, written by Zohar Gilad, Executive VP of Precise, provides an overview of top issues to consider before, during, and after migration.

Coming Events of Interest

The Critical Path to IPv6 - December 13th in New York, NY. Attend this brand new Network World Technical Seminar to gain practical information on how to help lead your organization through this necessary transition.

2012 International Consumer Electronics Show (CES) - January 10th-13th in Las Vegas, NV. With more than four decades of success, the International CES reaches across global markets, connects the industry and enables CE innovations to grow and thrive. This is the world's largest consumer technology tradeshow. 

CONTENT IN THE CLOUD at CES - January 11th in Las Vegas, NV. Gain a deeper understanding of the impact of cloud-delivered content on specific segments and industries, including consumers, telecom, media, and CE manufacturers.

2012 NAB Show - April 14th-19th in Las Vegas, NV. From Broadcasting to Broader-casting, the NAB Show has evolved over the last eight decades to continually lead this ever-changing industry. From creation to consumption, the NAB Show has proudly served as the incubator for excellence in helping to breathe life into content everywhere. 

CLOUD COMPUTING CONFERENCE at NAB - April 16th in Las Vegas, NV. Don't miss this full-day conference focusing on the impact of cloud computing solutions on all aspects of production, storage, and delivery of television programming and video.

Copyright 2008 Distributed Computing Industry Association
This page last updated December 4, 2011
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