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Why Strong Growth in Cloud Space Isn’t Necessarily Good for Rackspace

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Smaller players in the cloud space are losing share to large players

Previously in the series, we discussed growth in the cloud space in 1Q16. While the top players like Amazon (AMZN), Microsoft (MSFT), IBM (IBM), and Google (GOOG) (GOOGL) continue to reign in the cloud space, it is the small players that are reporting double-digit growth in the space.

On the surface, the growth posted by the 20 players mentioned earlier in the series looks promising. However, when we compare their growth figures with the growth of the overall cloud space, the growth doesn’t appear to be very satisfactory. Synergy Research estimates show that the cloud space is growing at more than 50% while these 20 players reported average yearly growth of 41%, indicating that they are losing market share.

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Lack of scale and broader footprint further weaken smaller players in the cloud space

Referring to the growth in the cloud space, John Dinsdale, chief analyst and research director at Synergy Research, stated, “This is a market that is so big and is growing so rapidly that companies can be growing by 10-30% per year and might feel good about themselves and yet they’d still be losing market share.”

Dinsdale further stated, “The big question for them is whether or not they are building a sustainable and profitable business. This can be done by focusing on specific regions or specific services, but the bulk of the market demands huge scale, a broad footprint, very deep pockets and a long-term corporate focus.”

Rackspace (RAX) is one such cloud company that is finding it difficult to meet market expectations despite growth in the cloud space. Looking at Rackspace’s recent fiscal 1Q16 revenues, Dinsdale’s statement makes sense. We’ll discuss Rackspace’s growth and its impact on the stock in detail in a later part of the series.

For diversified exposure to select software companies in the United States, you can consider investing in the SPDR S&P 500 ETF (SPY). This ETF has exposure of 8% in the application software industry.

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