I'd like to add my comments to Rob's article “So the recession is indeed punishing CDNs.” After all these companies, both pure plays and telecoms, reported 2Q results and issued weak guidance for Q3, it's quite clear that the sector is experiencing little to no revenue growth and expecting this trend to last in the close future.
Dan Rayburn is taking a longer time frame approach in his article: “The Future of the CDN Market”, to see what this can mean for the whole sector:
As we look to what the CDN market will be like 12 months from now, it’s clear that many vendors won’t be able to sustain themselves. The fact is, the CDN industry has been through this cycle before. In 2000, about 50 CDNs of all shapes and sizes existed. Two years later, in 2002, there were only about a dozen CDNs; in 2004, that number was only five or six.
Many people are predicting consolidation in the market. It will happen, but not in a positive way for most of the CDNs and the investors who pumped a lot of money into these companies. Most CDNs don’t have enough revenue, customers, patents, applications, or intellectual property to make them worth more money than they spent to launch in the market. We’ve already seen some CDNs such as Panther Express and Grid Networks run out of cash and be forced to merge with others—and more deals like this are on the way.
Although this is not good news for the sector, it might not frighten the average investor, who can basically only chose among the two major pure plays in the industry, Akamai (NASDAQ:AKAM, news, filings) and Limelight Networks (NASDAQ:LLNW, news, filings), that should survive the selection well enough.
Dan is also touching another interesting development, that, again, should represent a harder challenge for the smaller players:
The big change coming to the CDN space in the next 12 months (which we have already started to see) is how CDNs are trying to sell more than just delivery to move up the stack and diversify their revenue. CDNs are now starting to offer more than just video delivery; they are focusing on small-object delivery, content management, live event management, mobile video solutions, and other pieces of the ecosystem. Their hope is that they can continue to build their businesses up around doing more than just delivering bits; they really want to take control of the entire ecosystem.
While you may or may not agree with their judgment on single players, the screening is quite interesting as their final comments, from an investor point of view:
- The next 12 months will see continuing upheaval in CDN space
- The growing importance of content delivery will be counterbalanced by declining pricing and market consolidation
- Carrier encroachment will be the most transformative trend
As we may notice, both analysts agree that consolidation might become the name of the game in the sector, in the next few months.
A couple of datapoints, recently reported by Akamai and Limelight Networks, are also interesting for investors, although hard to read at first.
Both Companies are still increasing headcount, in spite of flat revenues (Akam increased employees by 11.8% , and LLNW is roughly 20% up on a Y/Y basis – spreadsheets by Gridstone Research):
Customers are also growing in number, as if there's no shortage of new Companies in need for this kind of services, in spite of the recession, although most of the existing ones seem to decrease spending (AKAM +9.3% and LLNW +6% Y/Y):
Has the sector become a nightmare for investors (excluding the possibility of an acquisition at a premium – and both Akamai and Limelight Networks are the subject of this kind of rumors from time to time...), with prices, ARPU and margins decreasing, while fixed costs seem to go in the opposite direction?
Or maybe these two companies are investing in their business, (which means people, too), to add new value to their services, through different services, like Dan mentioned, and that could also be ad insertion, better reporting, encoding, security, etc., to differentiate their offering from the Telecoms commoditized bread and butter CDN, awaiting a recovery in the economy, with the advantage of less competition around, by that time, too...