Why Google Cloud Could Spell Trouble for 3 Top Cloud Providers

March 29, 2016 by 247lee

If there is one company in the tech universe that you don’t want to compete with it is probably Alphabet Inc. (NASDAQ: GOOGL). Over the years, the tech giant has proven a worthy adversary in almost every field it has entered into, and the company’s increasing focus on the public cloud may prove to be no different.

In a new Merrill Lynch research report, analyst Kash Rangan makes the case that the company is increasing the focus on the public cloud and that Google NEXT last week highlighted the increased commitment to the Google Cloud Platform (GCP). While Rangan feels the GCP has a host of positive features, he notes that there is a need to catch up in services offered, global scale and the overall ecosystem.

The analyst also points to three companies that could feel “incremental pressure” as the GCP platform enters into the public cloud market in a big way. One is rated Buy and two are Neutral rated at Merrill Lynch.

Rackspace Hosting

This stock has been cut almost 65% from highs posted almost a year ago. Rackspace Hosting Inc. (NYSE: RAX) is the self-described number one managed cloud company, which helps businesses tap the power of cloud computing without the challenge and expense of managing complex IT infrastructure and application platforms on their own. Rackspace engineers deliver specialized expertise, on top of leading technologies developed by AWS, Microsoft, OpenStack, VMware and others, through a results-obsessed service known as Fanatical Support.


The company has more than 300,000 customers worldwide, including two-thirds of the Fortune 100. Rackspace was named a leader in the 2015 Gartner Magic Quadrant for Cloud-Enabled Managed Hosting. The company also recently granted 37 new nonexecutive officer employees restricted stocks shares as an employment inducement.

The Merrill Lynch price target for the Buy-rated stock is $32. The Thomson/First Call consensus target is at $26.71. The shares closed Monday at $20.35.

Red Hat

This technology stock is rated Neutral at Merrill Lynch. Red Hat Inc. (NYSE: RHT) is the world’s leading provider of open source software solutions, using a community-powered approach to reliable and high-performing cloud, Linux, middleware, storage and virtualization technologies. Red Hat also offers award-winning support, training and consulting services.

While many on Wall Street acknowledge that Red Hat trades at a relatively high valuation of 32 times 12-month forward earnings estimates, they also think that Red Hat is well positioned to benefit from market share gains of the “open source” Linux operating system over time.

The company formed a partnership last year with once bitter rival Microsoft that would bring more flexibility to hybrid cloud enterprise environments. Specifically, the partnership allows cloud products running under the Linux operating system to integrate with Microsoft’s cloud computing platform Azure. The huge move after years of competition could help to deflect the Google Cloud Platform challenge.

The $78 Merrill Lynch price target is much lower than the consensus target of $88.17. The shares ended Monday at $73.49.

VMware

This stock is down a stunning 45% since last August and is also rated Neutral at Merrill Lynch. VMware Inc. (NYSE: VMW) provides virtualization infrastructure solutions in the United States and internationally. The company’s virtualization infrastructure solutions include a suite of products designed to deliver a software-defined data center run on industry-standard desktop computers and servers, and support a range of operating system and application environments, as well as networking and storage infrastructures. Its solutions enable organizations to aggregate multiple servers, storage infrastructure and networks together into shared pools of capacity.

Of course the big issue is how the stock will trade going forward as a result of the Dell deal with EMC, which was a concern even before the deal surfaced. Some have said in the past that they feel that VMware will continue to trade at a discount to intrinsic value because of the overhang. While they acknowledge the continuing headline risk, many also feel that business is surprisingly resilient and that the company continues to sign deals.

The company posted solid fourth-quarter results, but the guidance going forward was disappointing. The base value of the company, or the value of the future cash-flow from the maintenance stream, is estimated in the $55 range, and that remains above where the stock is trading at now.

The Merrill Lynch price target is $62. The consensus target is $62.42. The stock closed Monday at $51.09.

While all these companies could be dinged by a big Google Cloud effort, they are all reasonably solid on their own and should ultimately withstand the challenge. In addition, at least two could be potential takeover targets. For the record, Merrill Lynch rates Alphabet a Buy with a gigantic $945 price objective. The stock closed most recently at $753.28.