I remember the heady days when Rackspace first went public. Think back to early August 2008 – before the market crash and all the bank failures. Rackspace had successfully launched its stock on the New York Stock Exchange. For those that may not know, here is how Rackspace described its business in its S-1 filing with the SEC:

”Rackspace Hosting is the world’s leader in hosting. We deliver websites, web-based IT systems, and computing as a service. Our rapid growth is the result of our commitment to serving our customers, known as Fanatical Support, and our exclusive focus on hosting. Our financial success is the result of responsible financial management and our disciplined, just-in-time approach to capital investment. During 2007, we had net revenue of $362.0 million. As of December 31, 2007, we served over 29,000 business customers of all sizes with more than 36,000 servers, over 700,000 business email accounts, and more than 32,000 cloud hosting domains. To deliver on our Fanatical Support Promise to our customers, we have created a culture that encourages passionate, engaged employees who we call “Rackers.” In 2008, Fortune magazine ranked Rackspace Hosting #32 on its list of ‘100 Best Companies to Work For’.”

Shortly after the IPO, on August 20 to be exact, I wrote an op ed piece asking the question, ”Is Rackspace Really Worth $1.2 Billion?”. The point of the piece was that even though Rackspace had lost 20 percent of its value, the price to earnings ratio was higher than Google, Microsoft or Yahoo. Remember that it is a bit hard to compare non hosting businesses to hosting businesses. Also Rackspace competes in the managed hosting space (IT hosting, they call it) – not the VPS or budget hosting space.

I went on to speculate that:
”It is possible that Rackspace justifies the current valuation and that the company will shock and surprise investors with incredible upside when they next report earnings. That’s just what Google did when it went public. However, if the first earnings reports are anything less than spectacular – it’s likely that Rackspace won’t be worth $1.2 billion anymore.”

Oh how times have changed. I took a look at the valuation of Rackspace since August 12, 2008 and compared it to the performance of the Dow Jones Industrial Average during the same period. Neither investment looks particularly good, as you might imagine. The Dow Jones Industrial Average lost 24.9 percent of its value. Ouch. Rackspace, however, lost twice as much declining an eye popping 50.8 percent. So if you had put your life savings into Rackspace on August 12, 2008 (just about 10 weeks ago) you would have lost half of your money.

So does that mean that now is a great time to buy Rackspace? The price to earnings ratio is way better now, having declined from around 60 times earnings to a more reasonable 30.8 times earnings as of the close of business on October 17, 2008. The key to this answer lies in your confidence that Rackspace will do exactly what they said that they would do when the stock was launched. Here is what the company stated it would accomplish:

”Our vision is to be recognized as one of the world’s great service companies. Our goal is to expand our leadership position in hosting around the world, and our strategy for accomplishing this goal includes the following key elements:

Add New Customers. We intend to continue our focus on aggressively acquiring profitable new customers.

Keep Existing Customers for Life and Sell Existing Customers More Services. When we serve customers well, they generally stay with us and buy more services. This means each customer has the potential to generate significant lifetime economic value.

Add New Services. Our goal is to add new services to meet our customers’ growing needs.

Expand Globally. We intend to expand further into continental Europe and to Asia.

Continue to Invest in Our Culture and Hire the Best People. We intend to continue our highly selective hiring process and maintain a work environment that encourages passionate, engaged Rackers.”

At this stage in the stock market cycle, I tend to become bullish on Rackspace. I believe that the company can execute well on the above-listed objectives. I think the company has done a great job of positioning itself as the leader in high end hosting and will add new customers at a steady rate. The global expansion seems to be going well. While I am not advocating putting your life savings into any one stock (have a well balanced portfolio to reduce risk) I think that Rackspace is a much more attractive investment at 50 percent off.

This content was written by Derek Vaughan exclusively for hostdiscussion.com.

As I surf through several cheap dedicated server host web sites, I see budget server after budget server. Competition is stiff and furious for the low-end Dedicated Server customer. I can only imagine the insane churn rates, low profit margins, and overall headaches caused by the low-end customer. What’s scary for the cheap dedicated server providers is; there’s already a better product on the playing field at more affordable prices.

Furthermore, this new player is easier to manage, easier to provision, uses less power, and will be commonplace by the end of 2009.

Even more damaging to your future is that this provider offers more computing power in one tiny sliver than your ancient low-cost dedicated server.

What will you do once the customers start to leave you for the new player? Lower your prices even more on ancient hardware? Probably.

Will it work? No chance

MEET YOUR NEW COMPETITOR: VIRTUALIZED DEDICATED.

Once a customer gets used to the automation, 20 second reboots, easy migrations, back-up / restoration tools a Virtual Server offers, they will not go back.

What’s even more cool is, a VE (Virtual Environment) on a high-powered Dedicated Server vastly out-performs these ancient pieces of hardware you are pawning off on people for $40/mo for the same price. This is not the VPS of two years ago. Processing power has gone up considerably and has now enabled cost efficient ’slicing’ of a single computer in to many usable computers. More efficient manufacturing methods have also led to competitive pricing on server hardware

The processing power increases now make sense for the end customer to consider VPS as a viable solution. It’s affordable and reliable now for mass market use.

In addition, the power consumption on your old beast servers are considerably higher than a newer more powerful machine capable of being virtualized. This saves you the Hosting company money.

As a dedicated server provider, you already have a data center, network, and the infrastructure in place to keep selling dedicateds. You just need to tweak your sales model to cater to virtualization hardware and software for end Resellers.

Read the rest of this entry »

If you missed it, the U.S. stock market (along with the rest of the world markets) has been dropping like a rock. To put a bit of perspective on the state of affairs consider this:

The venerable and respected investment bank known as Lehman Brothers which had been in existence for 158 years has gone bankrupt. The former CEO has been facing a Congressional hearing into whether or not the company misappropriated funds in the days leading up to the collapse.

The Dow Jones Industrial Average fell below 10,000 yesterday. How low is that? The first time the index crossed 10,000 was back in 1999. So if you had invested $1,000 in the Dow Jones Industrial Average stocks in 1999 and waited almost 10 years until today – you would have earned nothing.

If you need further detail on the abysmal state of the financial markets you can visit any major news outlet or financial website. The particular sector that interests me at this time are those companies involved in web hosting. In the publicly traded markets there are two firms that are pretty much web hosting ‘pure plays’. That is, their entire business is built around only web hosting-related business activities: Web.com (ticker symbol WWWW) and Rackspace (ticker symbol RAX).

So how have the web hosting companies been fairing over the past month? Terrible.

For comparison’s sake, let’s sat that you had a bunch of money to invest 1 month ago. Here is how much you would have lost in each of the following investments:

Microsoft – you would have lost 2.9 percent in the past month.

Dow Jones Industrial Average – lost you 11.3 percent.

Google – sorry, you lost 16.4 percent in the past month.

The Nasdaq – loser to the tune of 17.4 percent.

Which now brings us to the web hosting companies. If you had the inclination to invest in Web.com or Rackspace over the past month, here is how you faired:

Web.com – you would have lost a staggering 30 percent of your money.

Rackspace – are you sitting down? Good, because your investment has shrunk by one third. You lost 33 percent of your money in one month. Ouch.

Not to belabor the point, but consider the overall valuations of Web.com and Rackspace.

On September 5, 2008 Rackspace was worth around $1.2 billion. On October 6, 2008 it was worth $851 million. That’s a loss of over $400 million.

On September 5, 2008 Web.com was worth $167 million. On October 6, 2008 it was worth $117 million. That’s a loss of $50 million.

That makes me think of what I could do with $450 million. Let’s hope that the downturn on Wall Street and the blood bath in the web hosting sector let up soon. If they don’t, I’m not sure you’d want to invest in web hosting for the next month.

This content was written by Derek Vaughan and is provided courtesy of the VPS and dedicated hosting experts at HostMySite.com.