Stock Analysts Warning on Possible Overvaluation of Rackspace

Since its Initial Public Offering in August 2008, Rackspace Hosting’s share value has grown almost 6 times its original value. This is primarily because of the company’s growth in terms of earnings per share, revenue, and subscriber base. The cloud service provider is currently trading with an impressive profit-to-earnings ratio and analysts are warning investors about a possible overvaluation.

Rackspace is currently leading the pack in private clouds deployment, generating at least $246.4 million revenues during the 2nd quarter. On the other hand, Amazon’s AWS is currently the leader in public clouds deployment. Experts are expecting that businesses will move 50% of their workloads to the clouds by 2014. By 2020, Forrester believes that the public cloud market will be worth $159.3 billion from $25.5 billion in 2011. Currently, Rackspace is capitalizing on these trends.

However, Rackspace’s dominance is threatened with the rapid growth of virtualization technologies which cause cloud-based computing costs to significantly decrease. As a result, more customers are expected to take advantage of cloud services. Because start-up costs of infrastructure are lessened, there won’t be much impediments to entry thereby threatening Rackspace’s position as a dominant force.

As of late, the landscape has become competitive with the entry of, IBM, Google, Microsoft, Amazon, VMware, and Equinix to challenge Rackspace. Even telecom providers like Verizon and CenturyLink seem to profit from Rackspace’s subscribers. As such, more telecoms are also expected to join the bandwagon. However, Rackspace hopes to differ from everyone else by offering products built from open-source cloud technologies. This difference is Rackspace’s selling point because consumers won’t be locked into static services like Amazon’s Web Service.

Established in 1998, Rackspace is a leader in hosting services. Offering managed hosting, it lists some 40% of Fortune 100 as customers. Being a profitable company, revenue grew by 24.4% for the past 3 years. Its revenue in 2011 grew by 52.1% as compared to the previous year. Experts are also saying that it is possible for the company’s revenues to grow by that same percentage for the next 2 years.

However, according to Seeking Alpha, the value of Rackspace’s stock is grossly overpriced. According to the article, business organizations will opt to reduce hosting costs first before decreasing other key expenses. Therefore, Rackspace is only profitable marginally. It has to rely on high revenues to maximize profitability for long periods of time. At the current share price, Rackspace must be able to have about $4 as its earnings per share but experts believe that earnings per share won’t up the $1 benchmark really soon.

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