3 Cloud Stocks Set to Outperform the Market

Internet 2.0: The Big Data Boom Profits

By Christian DeHaemer   

The last time Web traffic volume was expanding this fast, Microsoft (NASDAQ: MSFT) shares shot up from $3.7 to $58.4, establishing a 1,500% gain in just five years...

In the same time frame, Cisco Systems (NASDAQ: CSCO) saw gains as high as 3,900%! Advanced Micro Devices (NYSE: AMD) shares grew 295%, and Intel (NASDAQ: INTC) increased over 1,700%.

If you missed the boat on the last Internet boom, you definitely don't want to miss this one.

Here's why: Within the next four years, the size of the Internet is expected to quadruple in size.

By 2016, annual IP traffic is predicted to reach 1.3 zettabytes (to put that in perspective, there are one trillion gigabytes in a single zettabyte).

There are several reasons for this growth in traffic:

  • More Devices. Mobile phones, tablets, and wearables will continue to penetrate the market. By 2016, there will be 2.5 connections for every person on earth (current population).
  • Faster Speeds. Faster travel means higher rates of traffic. Average broadband speeds will more than triple within the next four years.
  • More Wi-Fi. By 2016, more than 50% of Internet traffic is expected to be connected through Wi-Fi.
  • Increased Video. Video uses more data, plain and simple. By 2016, two years worth of video will move through the Internet every second.
  • More Users. Almost half of the world's current population will be connected to the Internet within four years. Forecasts put the number of connected at 3.4 billion

Alongside rising Internet traffic are diminishing fears over cloud security.

The initial resistance to putting information on the cloud has eased as we have seen no systemic issues in security.

Analytics company Comscore found that before adopting cloud services, 45% of small- to medium-sized companies express security concerns. However, after adopting the cloud, 94% actually feel more secure.

As Internet traffic and acceptance of cloud security increase, so will the cloud industry as a whole. Leading technology research company Gartner predicts the cloud market to grow by 19% to $131 billion in 2013.

The market will see major gains within this sector.

How can investors position themselves for profit?

We have identified three companies set to reap the benefits of the growing cloud within the coming years...

Palo Alto (NYSE: PANW)

Palo Alto (NYSE: PANW) is a networking and software company that offers next-generation firewalls (NGFW). The company has seen huge growth over the past several years by penetrating a largely untapped market space.

Palo Alto has seen revenue and income grow over the past three years. Revenue went from $48.8 million to $118.6 million to $255.1 million. Income went from a loss of $20.6 million in 2010 to a loss of $10.4 million in 2011 to a gain of $3.9 million in 2012.

And 2013 is looking at similar growth, with a 54% revenue increase from Q3 2012 to Q3 2013.

When compared to its closest competitors, Palo Alto's revenue growth is out of the park.

palo growth

Furthermore, Palo Alto was able to generate $19 million in cash flow in the third quarter of 2013 with no liable debt and is sitting on a pile of cash: $342 million, to be exact.

And if all that isn't enough, Palo Alto saw an 88% increase to $219 million in deferred revenue, largely due to subscription fees, which account for 31% of the company's revenue.

This is all a result of Palo Alto gaining market share and a large customer base. The company has added 1,000 new customers a quarter for six straight quarters — a trend that is expected to continue through 2013.

Palo Alto has accomplished this by offering a unique product to a growing market. Its security software is focused on Web-based applications that now make up for up to 70% of network traffic. The company also now offers firewalls on virtual software (this includes cloud-based Web applications) as opposed to on hardware. Gartner estimates 20% of the firewall market will switch to virtual platforms, making Palo Alto a major competitor in a $1.6 billion market.

Palo Alto has also begun to place focus on cloud computing in enterprise, partnering with Citrix Systems (NASDAQ: CTXS) to provide corporate customers security of access on mobile networks. For those 45% of businesses worried about security on the cloud, Palo's NGFW gateway provides a strong sense of relief.

That said, Palo's stock has been in a downtrend since September 2012...

Don't jump in with both feet. Look for a bottom signal on the chart. If you play it right, you should be able to get in below $40.

Cisco Systems, Inc. (NASDAQ: CSCO)

Cisco Systems (NASDAQ: CSCO) has been dominating the market for physical networking equipment — including switches and routers — for some time now.

But Cisco wants to be bigger. So the company is switching gears to a new strategy focused on the Internet of Everything (IoE).

Simply defined, the IoE refers to the idea of an increased connectivity between all objects. Until now, the Internet has been a people-centered medium — but non-human objects and machinery are now gaining an increasing amount of access. (For example: Mirrors that can provide basic medical analysis by measuring temperature and pupil dilation, billboards that can target ads based on viewer data and location; livestock being connected to the Web to monitor dietary patterns.)

Cisco aims to play a major role in this revolution by connecting these objects through networking and data storage. The company is accomplishing this goal by dropping its consumer-based hardware and aggressively moving towards cloud computing.

The company recently acquired Cloupia and Meraki for cloud management, vCider and Cariden for networking, and BroadHop for cloud programming. And the transitioning has been virtually seamless so far. The company has been able to quickly increase revenue in new markets while maintaining consistent streams from previously successful areas.

Cisco's switching and routing revenues each fell 2% year on year, while wireless and data center revenues grew 38% and 61% respectively.

Location-Based Analysis

Imagine entering a museum and automatically receiving a guided tour on your smartphone...

Better yet, imagine what retailers would pay to gain access to the shopping history of potential in-store customers.

This idea is similar to the way Amazon stores your search history to recommend products, only with applications to the physical world. By creating an infrastructure of networking and intelligent location sensors, Cisco is going to provide a unique and highly demanded service.

Take a look at the graph below representing adoption of cloud services. Half of the revenue generated by the cloud is based in advertising.

cloud portions
Source: Gartner

And cloud systems infrastructure (Iaas), which accounts for 5% total services, was the fastest growing category this year.

In case you weren't following, Cisco is entrenching itself in both the fastest growing and the largest cloud computing categories.

Cisco has some very attractive numbers supporting it to boot. The company's balance sheet shows $47.39 billion or $8.87 in cash per share with only $16 billion in total debt. Additionally, Cisco generates a large amount of cash with an OCF of $12 billion.

Cisco has also treated investors well, increasing dividends by 180% since 2011 and producing record revenue levels for nine straight quarters.

And despite the increased dividends, Cisco has held on to a payout ratio below 30% and a dividend yield of 2.8%. With a compound annual growth rate of 8.3% and Cisco holding on to much of its revenue, (they have $47.88 billion in cash!) the company is looking at solid growth potential in the coming years.

If you are looking for a solid blue chip winner to hold onto for the next two years, look no further than Cisco.

Micron Technology Inc. (NASDAQ: MU)

Micron Technology Inc. (NASDAQ: MU) designs and manufactures semiconductors for data storage and retrieval. The company provides flash memory (NAND) and dynamic random-access memory (DRAM) used for storage in computers and servers.

Micron has seen a small but steady increase in revenue stream over the past three quarters: $1.8 billion, $2.1 billion, and $2.3 billion, sequentially. Considering the current performance of the semiconductor market, this is a very positive sign for Micron.

But what I am most impressed with is the company's recent ability to improve its margins...

Micron has recently made several steps to cut costs. The company has stopped developing its cost-sucking light-emitting Diodes and sold some of its assets, including a wafer fabrication facility in Italy.

Micron has also begun to raise prices and cut back on semiconductor production to avoid a supply glut. And even with these 16% price hikes, Micron has been able to increase DRAM and NAND sales by 6% and 7% respectively.

As a result of these moves, Micron has seen decreased manufacturing costs and is also getting more money on the dollar.

Quarter-on-quarter, net income jumped from a loss of $286 million to a gain of $42 million, marking Micron's first profitable quarter since 2011. Profit margins also moved up from -13.8% to 1.8% in the same time frame.

Micron's significant competitors include SanDisk (NASDAQ: SNDK), MoSys Inc. (NASDAQ: MOSY), Samsung (KSE: 005930), SK Hynix (KSE: 000660), and Integrated Silicon Solution Inc. (NASDAQ: ISSI).

These companies are the top performers in the semiconductor and memory space, and Micron has recently begun to pull away from them.

Take a look at the divergence:

micron divergence

The indicators are clear: Micron has blown away the market by shifting focus to the cloud.

The DRAM industry has moved from the dying PC to new high-growth areas in mobile, tablet, networking and, most importantly, data servers.

Big Data

The cloud requires a network of data centers and servers with a massive amount of storage capability.

Micron is diving right into this market with new solid state drives, such as the Micron P400m SSD, that allow single servers to manage petabytes of data.

To give you some perspective, the entirety of all the information held in U.S. academic research libraries would fit into just two petabytes of storage.

Currently in production, the Micron P400m shows that Micron is aiming to enter the blooming big data market.

Micron is currently trading just off a six-year high, at $12.53 a share. With a price/book of $1.92, a price/sales of $1.79, and a forward P/E of 12.56, Micron is still fairly cheap.

Micron would be a good buy if it drops under $12. It would be a better buy at $10.

All the best,

Christian DeHaemer Signature

Christian DeHaemer for Wealth Daily

P.S. The Internet 2.0 Cloud Revolution is going to make a select few people very rich. But it's not the only technology industry poised to rack up huge gains... We are keeping a close eye on a variety of tech sectors — including a wide range of robotic applications, a field Bill Gates expects to become a "ubiquitous part of our day-to-day lives." Over the next few months, we will be starting a new technology service to take advantage of these kinds of dynamic trends. Profits will be largest for those who get in early, and this summer's sell-off should provide a great entry point.

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