Akamai Q2 Earnings: Currency Headwinds Take Some Shine Off Otherwise Impressive Quarter

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Content Delivery Network (CDN) provider Akamai (NASDAQ:AKAM) put out a strong set of numbers in its quarterly earnings report which was released recently. [1] The company generated revenues of $541 million in Q2 2015, about 14% higher than the prior-year quarter and in-line with the company’s guidance. [2] However, unfavorable currency movements also had a detrimental effect on the company’s revenues for the quarter. Ignoring the effect of currency headwinds, the company’s overall revenues actually registered an 18% uptick for the quarter. Akamai’s growth is driven by secular trends of increasing Internet content and traffic, as people increasingly take to the web for shopping, streaming videos, accessing social media, playing games and downloading software on computers and mobile devices. The company also saw strong demand for its value-added services (VAS) such as security solutions and app accelerators. These services have high margins, which suggests that despite the commoditization of content delivery business, Akamai can improve, or at least sustain, its margins in the near term.

Akamai expects Q3 2015 revenue to be in the range of $543 to $555 million, which is below the consensus estimate of $565 million. The cautious outlook takes into account continued foreign exchange headwinds from the strengthening of the U.S. dollar against most currencies. [3] Even though currency headwinds will have a negative impact on the company’s revenues in the near term, we believe that both CDN and VAS services will continue to grow and will be instrumental in increasing Akamai’s overall revenues from less than $2 billion in 2014 to $3.8 billion by 2021.

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Strong Dollar Plays Spoilsport In Otherwise Strong Growth

Akamai experienced strong revenue growth across business verticals as well as geographies. We estimate that almost 80% of the company’s value is driven by e-commerce and media traffic, which continues to surge as mobile devices proliferate and demand for social media, video streaming and online gaming grows at a frenetic pace. Akamai’s media delivery business saw its revenues grow by 12% year over year and 17% in constant currency terms. [2] The effect of currency fluctuations is clearly visible as Akamai earns one-fourth of its revenue from outside of the U.S.

Ignoring the short term effects of currency headwinds, a big factor in the growth of Akamai’s media delivery business is the surge in the consumption of streaming video on the Internet. According to Nielsen, video consumption on the Internet grew by around 60% last year. [4] The time spent consuming content through video streaming is only 7.6% of the time spent watching content on TV. Hence, there is ample opportunity for the streaming medium to grow as audience shifts its preference from traditional TV to Internet video. Additionally, user demand for high-quality content, driven by new formats such as 4K and ultra-HD, which require higher bit rates than normal, means that media delivery requirements are likely to increase significantly in the coming years. Keeping this in mind, Akamai is clearly focusing on improving its capabilities on the video front. (Read More – Akamai Takes Strategic Steps With Focus On Video)

Among the various value-added solutions that Akamai sells, security products are experiencing the fastest growth. For the quarter, security revenues grew 15% over the same period last year and 19% in constant currency terms. [2] The demand for security products has been partly spurred by high-profile data breaches such as those at Sony Corp and Home Depot. [5] A recent report by Forrester Research predicts that at least 60 percent of enterprises will encounter a breach of sensitive data in 2015. [6] Akamai observed a record number of DDoS attacks over its Prolexic network in Q1 2015, a 116.5% increase over the year ago period. [7] The company has also warned of an uptick in DDoS reflection attacks in the coming quarters. [8] Akamai senses an opportunity in the current environment and is enhancing its capabilities in order to better serve clients. (Related – Akamai Takes Strategic Steps With Focus On Security Solutions Business)

Potential Headwinds For Akamai

The pure-play content delivery network (CDN) market is becoming increasingly commoditized. Akamai is facing increased competition from rivals such as Level 3, Limelight, Edgecast, and (more recently) Amazon, which has heightened CDN pricing pressure in recent years. However, Akamai has been bolstering its performance and has been improving its value added services through new launches and acquisitions. This will help it mitigate the impact of the pure-play CDN commoditization and will help it grab a bigger share of the market.

Another potential headwind could be the fact that large companies such as Apple are trying to build their own content delivery networks. Apple is an important client for Akamai and is reported to have delivered updates to its operating system through its own content delivery network in 2014. [9] However, Apple is still using Akamai’s services and any shifting to their own content delivery network will be a phased and prolonged project. There are fears that this trend might catch on and other customers might decide to follow in Apple’s footsteps, but the resources and time required for establishing their own CDN will not make economic sense for most of Akamai’s clients.

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Notes:
  1. Akamai Reports Second Quarter 2015 Financial Results, July 28, 2015, Akamai Press Release []
  2. Akamai’s SEC filings [] [] []
  3. Akamai Technologies (AKAM) Frank Thomson Leighton on Q2 2015 Results – Earnings Call Transcript, July 28, 2015, Seeking Alpha []
  4. THE TOTAL AUDIENCE REPORT – DECEMBER 2014, Nielsen []
  5. 32 Data Breaches Larger Than Sony’s in the Past Year, March 10, 2015, Huffington Post []
  6. Planning For Failure, February 11, 2015, Forrester []
  7. Akamai’s State of the Internet Report Q1 2015 – Secutity, Akamai []
  8. Akamai Warns Of An Uptick In DDoS Reflection Attacks Using Abandoned Routing Protocol, July 01, 2015, Akamai Press release []
  9. Apple’s iOS 8 included one more surprise, Deepfield []