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4-Traders Homepage  >  Equities  >  Nasdaq  >  Amazon.com, Inc.    AMZN

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Amazon Rivals Have Big Clouds to Fill

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02/17/2017 | 06:59pm CET
By Dan Gallagher 

Some things, even huge piles of money can't buy.

One of those things might be the ability to unseat Amazon.com Inc.'s AWS as the king of the cloud computing market. Not that others haven't made a game effort. The two largest challengers -- Microsoft Corp. and Google parent Alphabet Inc. -- have dropped about $52 billion combined in capital expenditures over the past three years, much of which goes toward their massive networks of data centers and related equipment. That's double what the two spent over the previous three-year period.

It's not been without results. Microsoft's Azure cloud service more than doubled its revenue in 2016 to about $2.7 billion, according to estimates from J.P. Morgan. Google's Cloud Platform surpassed $1 billion in revenue in 2016, estimates Aaron Kessler of Raymond James.

The latter is particularly of note, given that it's been barely a year since Google brought in former VMware chief Diane Greene to run the cloud division and focus on enterprise customers. It took AWS at least five years to hit the $1 billion mark, judging from Amazon's limited disclosures at the time.

But Amazon has only gained momentum since. AWS generated $12.2 billion in revenue in 2016. That's a gain of 55% from the previous year. Google Cloud could double revenue this year to $2 billion, especially since $400 million is already effectively guaranteed from a five-year deal with Snapchat's parent company. But even if it did, Google Cloud would still be generating less than 12% of the $17 billion in revenue Wall Street expects from AWS in 2017.

That speaks distinctly to Amazon's first-mover advantage. The company launched its first cloud offerings 11 years ago, long before it was clear why an online retailer would want into the expensive business of IT services. Investors at the time worried the ambitious company had found a new money pit. Free cash flow -- Amazon's favorite indicator of financial performance -- fell in 2006, after being positive and growing for four years.

But Amazon has now had the time to leverage that investment -- and billions more -- into a very profitable business. Operating income for AWS doubled to $3.1 billion in 2016, producing a margin of 25%. By contrast, Amazon's combined retail business generated operating margins of just over 2% for the year. Free cash flow, adjusted for capital leases and principal repayments, jumped 55% to $3.9 billion by the end of 2016.

This isn't to say Google and Microsoft are wrong to target the cloud. Brent Bracelin of Pacific Crest estimates that the top 30 cloud providers now account for only about 5% of annual corporate spending on enterprise technology. A big portion of that spending will move to the cloud. So there's plenty of market up for grabs -- provided one can get around Amazon's rather large mitts.

Write to Dan Gallagher at dan.gallagher@wsj.com

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