Cloud/Salesforce: secular growth will dispel cyclical thunder heads

Cloud spotting is a pastime that can be applied to off-site data storage as well as meteorology. For years, cloud computing could rely on balmy conditions that spawn cumulus in summer skies. Now thunder heads are forming overhead. Companies that ramped up cloud spending during the pandemic are cutting back.

Salesforce, a big cloud-based software provider, is the latest to sound the alarm. The company, which has a market capitalisation of $139bn, is laying off 10 per cent of its workforce and closing some offices.

Customers are taking a more “measured” approach to spending, apparently. Amazon, Microsoft and Alphabet all reported slower revenue growth from their cloud divisions in their most recent quarters.

But not all cloud stocks are alike. Companies that provide cloud storage with add-ons (so-called infrastructure-as-a-service) like Amazon and Microsoft should fare better than those focusing on software-as-a-service.

The latter are more dispensable as big projects get shut down. Salesforce’s software, which helps businesses manage customer relations, falls into this category.

IaaS groups should continue to benefit from the secular shift to cloud computing. Industries that have been slow to make the move — such as government, healthcare and education — will need to keep investing. Last month, for example, the Pentagon split a $9bn contract for cloud computing services between Google, Oracle, Amazon and Microsoft.

Overall, Gartner expects global spending on cloud services to increase by more than a fifth to $592bn this year. Within this, IaaS spending is forecast to increase the most — by 30 per cent.

Dominant IaaS groups like Amazon and Microsoft have scale advantages. They can appeal to cost-conscious customers by bundling up services and getting customers to sign longer-term deals.

Cloud customers tend to be sticky. Once signed up, they keep paying subscriptions. It is the digital version of the famous cheap razor and pricier blades business model. At Amazon, the AWS cloud division accounted for all of the operating income it made in the first three quarters of 2022.

Storms pass. Clouds are always with us. Investors should shop for bargains amid the current bad news from the data storage and processing business.