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JULY 16, 2004
By Olga Kharif Web Hosts: The Life of the Party Once synonymous with dot-bomb, these companies' services are back in demand, and some of the smaller players are well-positioned Mention Web hosting, and many investors make a sour face. Exodus, the company that pioneered the idea and served many of the hottest dot-coms, saw its shares peak at $90 in 2000. Then the Internet crash came, and most of Exodus' customers failed. By the fall of 2001, Exodus had filed for Chapter 11 bankruptcy protection. "After Exodus, nobody wanted to say they do Web hosting," says Melanie Posey, an analyst with tech consultancy IDC in New York. But the business has made a big comeback. Now a $5.7 billion market, hosting may actually be one of the hottest sectors in tech today. The biggest player, IBM (IBM ), has seen its hosting business grow 20% annually for the past three years, to more than $1 billion in sales in 2003. It's one of Big Blue's main growth engines, according to recent remarks by Chairman Sam Palmisano. Web hosting revenues of No. 2, AT&T (T ), grew 40% in the past year. "Every key metric is positive," says Eric Shepcaro, AT&T's vice-president for emerging services. "INFLECTION POINT." Smaller players such as Savvis (SVVS ) and others are seeing big growth as they pick up customers and assets from Exodus and others that have left the business. They're adding support and hosting of complex Web-based software applications, such as customer relationship management (CRM) and enterprise resource management (ERP). They also offer other services, such as making Web pages load faster. Savvis has grabbed assets from Exodus, WHAM! NET, and Cable & Wireless America. And most of which have been acquired on the cheap, says Rob McCormick, Savvis' chairman and CEO. "We've acquired companies with a huge customer base, and we are up-selling those customers." Wall Street likes what it sees. Shares of Savvis have doubled in the past year, to around $1.25 as of July 15. Equinix (EQIX ) has tripled over the same time, to around $30. And shares of Akamai (AKAM ), the leader in the $350 million content-delivery market, are trading around $15, up 41% since January. "It's really a sector that's at an inflection point right now," says Tom Watts, an analyst with S.G. Cowen, which has recently started covering the group. "STAYING POWER." The fundamentals of these smaller players look attractive, analysts say. Equinix, which is among S.G. Cowen's top stock picks, will generate 46 cents in free cash flow per share this year, figures Watts. By 2006, that's expected to increase to $3 a share. If that happens, the stock could reach $60 within the same period, he figures. Savvis should turn cash-flow positive in the fourth quarter, and its stock could reach $3 to $4 as it moves toward profitability, Watts says. Because it offers a standard service without too much customization, Savvis' costs are lower –- and its margins higher –- than those of many rivals, says David Willis, an analyst with IT consultancy Meta Group. As a result, the third-largest Web hoster could gain market share from IBM and AT&T in the next year, Willis says. And Akamai reported its first profitable quarter in April. Many portfolio managers like Akamai, which is known for things like speeding up page delivery for Web sites of retailers such as Victoria's Secret. Its revenues should grow 29% this year and by more than 25% in 2005, figures David Smith, co-manager of the Loomis Sayles Small Cap Growth funds, where Akamai is a top holding. "They have the staying power," Smith says, adding that its shares could rise 39%, to $21, within 12 months. EARLY INNINGS. Companies like AT&T, IBM, and EDS (EDS ) will continue to benefit from the rise of Web hosting, but they won't gain as much as pure plays because they provide so many other services, says Watts. For investors willing to gamble on this reborn Internet sector, the smaller players is where the action is, the experts say. "The Exodus fiasco notwithstanding, the Internet continues to grow at a rapid pace," says Chris Staneluis, portfolio manager with Armada Growth funds. "We're just getting started. We're only in inning two or three. And as the Internet grows, it will require more data services." And more Web hosting, too.  Kharif is a reporter for BusinessWeek Online in Portland, Ore. Edited by Beth Belton
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