Akamai Technologies, Inc. (AKAM) Earnings Call Transcript & Summary

Good morning and good afternoon, everyone. My name is Bob McCooey, I'm the Global Head of Capital Markets here at Nasdaq. And thank you all for joining us here at the 44th Nasdaq Investor Conference. I'm pleased to be joined today by the team from Akamai, including their CFO, Ed McGowan, and Head of Investor Relations, Tom Barth. [Operator Instructions]

Now let's get right into it. Ed, can you briefly give us a high-level view of Akamai, your product portfolio, your edge platform and the edge platform that underpins all of your solutions?

Sure. Thanks for having me here, Bob. Nice to see you. Sure. So let me just, high level, give you sort of an overview of Akamai. Many people interact with Akamai many, many times a day, and they don't even know they do it. And if you're surfing the web, you're shopping, or you're banking, or you're watching a video or downloading a game for your gaming console, generally, that's coming from an Akamai server somewhere around the world. And that's what we can call our content delivery business. And so on behalf of most of the largest Internet properties in the world, they turn to Akamai to help deliver content at massive scale to users all around the world. And that's how the company was started 20 years ago. Today, that makes up about 65% roughly of our business comes from delivering content. The other 35% of the business comes from security. And what do I mean by that? And there's really 2 flavors of security. And I'll use NASDAQ as an example. Let's say you're a customer of ours, and we're delivering content, we're delivering your website and all your web applications, there's also a need to make sure that those applications on your website are secure. They're secure from people trying to take over the site and defame it or maybe try to launch a denial of service attack and knock the site offline, flood it with so much traffic that the site just falls over. You could have malicious machines coming to your site, trying to steal credentials or use stolen credentials to try to get access to your machines or to your applications. And Akamai has a set of services that protect against that to make sure that your site is safe. We have an application firewall product, distributed denial of service attack protection. We have bought management capabilities to determine what machines are interacting with your sites to basically keep your site up and secure from all of the malicious activity that happens on the web. So if you're using Akamai, we can help deliver your content and also keep it secure. The other thing that we're getting into, which is a smaller part of the business, but a faster part of the business is, think of you as a NASDAQ employee, and all of your IT security, where applications are starting to leave the building, meaning they're in the cloud, and employees are working more remotely. And it creates a pretty interesting security challenge. How do you secure the access to the -- behind the firewall applications? How do you ensure that the information that's flowing into your network or flowing out of your network is the right stuff? You're not importing malicious activity or malware or you're not exfiltrating data. So we have a set of security solutions that help the IT professional secure their assets behind the firewall. And that's basically, in a nutshell, sort of our $3.5 billion roughly business at Akamai today. Now all of that -- you mentioned the Edge, all of that runs on what we call our edge platform. So this is a platform that has close to 400,000 servers in over 120 countries, in over 4,000 networks, where we work with the Internet service providers, the major telcos. And we put our servers deep in their networks, close to where the end users are. So if you're a content provider that's delivering to a global audience, the -- your consumers are all over the world. And we ensure that the delivery is as close as possible so that the customers, your customers get the best possible experience. We are -- if you think about the way the Internet is designed, it wasn't designed for performance. So the core of the Internet where a lot of our competitors and a lot of people deploy infrastructure has a lot of challenges. It gets congested. You're further away from where the end users are. The end user experience isn't as good. So being at the edge gives you that advantage, number one, for scale, but also for quality. And all of the stuff that I talked about, the delivery of content as well as the security, all runs on that same platform. So while I could have a server that might be delivering a video to your house, I could be blocking an attack from an infected device from your neighbor's house.

So that certainly sounds like a significant competitive advantage for you in Akamai, the fact that everything is being done on that one platform.

Absolutely. Yes. So it's -- if you think about -- what gets us the real estate inside of the telcos and what makes us interesting for them is that we carry an awful lot of big, heavy media traffic. So most of your major streaming service providers, your gaming publishers, your big software companies that are delivering large files to millions of people use -- leverage Akamai. And therefore, we carry an awful lot of traffic. So what does that mean? The carriers that you connect with, so you're an AT&T or a Verizon or a Comcast customer, you are requesting this content, and the carriers need to get that content from the source. If we're carrying that content and we're in their networks, we can help them deliver, one, a better experience to their end users, but also defray a lot of costs so that they don't have to spend as much money on peering infrastructure. There's a dependability and a predictability of that traffic coming in their network. So we partner very closely with the operators. Now by doing that and having that real estate, generally, it's cheap, sometimes, it's free, we then layer on other services on top. So now I've got a server in the network that's say, delivering video. But then I can layer on top other value-added services: edge computing, security, et cetera. And that's what enables us to keep our margins as high as they are.

Excellent. So Ed, you're a 20-plus-year veteran. Tom referred to you as employee #98. So I wasn't sure if that was true, but he said you're like the top 100 there. So you've seen an amazing development over a long period of time at Akamai. The business has evolved. Talk a little bit about what you saw, but more importantly, what the future changes you expect. What's going to drive that growth that you just alluded to in your last comments?

Yes. Great question. If I go back to the early days when we were delivering traffic, what we used to think about as a lot of traffic 20 years ago today is something that wouldn't even register in terms of what we're looking at. Just the explosive growth of the Internet in general has been incredible. If I think about -- just recently, we did over 200 terabits per second peak traffic, which is amazing. And we're seeing larger and larger peaks. We're seeing more and more people using the Internet every day for pretty much everything that they do in their lives, whether it's shopping or traveling, booking travel reservations, entertainment, you name it. And obviously, during the pandemic, we saw a massive increase in Internet usage. And as you think about that from a scale perspective, and you go back to the original thesis of Akamai that we theorized, look, the Internet wasn't fundamentally designed for performance. If it wasn't for Akamai and CDNs in general, the Internet wouldn't really work very well. We'd have a lot of challenges, it would be. Back in the days before Akamai, we used to call it the worldwide wait, right? You remember how slowly -- web page is slow. Now we take it for granted that you get near TV quality experience. So that's one major change that we've seen. It's just this massive adoption and how much it's changed everybody's lives. But along with that comes the bad side of it, right, which is, think of all the commerce that's being done online, the banking that's being done online, all the valuable assets that are out there. It's brought in a lot of bad guys, crime, attacks. And security has become probably -- it is the fastest-growing part of the business, but also probably the biggest threat that anyone who's doing any business on the Internet faces. It's the biggest challenge that we're all wrestling with. So that's been a significant -- we're over $1 billion in security revenue now, where if you go back 20 years ago, that really wasn't a big issue. And today, it's probably the single biggest issue that we're all wrestling with.

So let's stay on security. Obviously, there's a lot of companies out there selling security products. It's in the news every day. What are the competitive differentiators for Akamai? And kind of in that same vein, what's the long-term growth opportunity, as I know this is a growing aspect of your overall offering?

Yes. It is probably 3 things. It's data, our people and our network. And I'll touch on each one of them. When it comes to security, the more data you have and the more that you see, the better you can get at understanding where the bad actors are, where the attacks are emanating from. We are probably the largest DNS provider in the world. We see trillions of DNS hits a day. We pretty much see almost every Internet user multiple times a day as they interact with our network. We know where a lot of the attacks are coming from. We have just tons of information and data. We've got incredibly talented threat researchers. We're constantly innovating, spending lots of money on research and development. We're trying to stay ahead of new attack vectors and not giving up on the old ones. We see some attacks that people will stop. And then several months later, the bad guys come back and try it again. So constantly innovating with our people, with our data. And then our network gives us a tremendous advantage as well. Having the capacity and the scale to block massive attacks at the edge where they originate from. The worst thing you'd want to do -- we've seen attacks that could literally take a country offline or flood major Tier 1 telcos. The worst thing you can do is bring all that attack traffic into your data center. You want to keep it out at the edge and block it where it's coming from rather than trying to fight the fight and bring everything in because you can just -- that the capacity could just be knocked offline for a major Tier 1 network or even a country, as I said. And then the network also gives you the ability to add performance. If you think about the paradigm with IT security, if you're using a cloud-based security and you're proxying traffic through several locations, your users are going to have a poor performance, right? If I've got -- if I'm proxying traffic in, say, a data center in Virginia, but I've got users in Asia and Europe, they're going to have a really bad experience. Having the edge network and being a performance company, you can solve that problem. So you can do that security at the edge while providing the performance. So you put those 3 things together, and I think that gives us a pretty unique advantage.

So I'm probably wrong when I use this word, but security seems like the sexy thing of the day for everyone to talk about. But you have a core part of your business, the Edge Technology Group, CDN. I think we need to spend a little time talking about that, your competitive strengths. What does the competition look like there? And maybe just give a little sense of what does the post-COVID environment look like for CDN.

Yes. So obviously, we're the pioneer when it came to CN -- CDN. We started the business over 20 years ago. It was a research project that Tom and his student, Danny Lewin, we're working on, and turned into a commercial business a few years later. The advantage there really is the capacity that we have, where our servers are located, the fact that we've got greater scale and quality than anyone else. I think a lot of our competitors have come along over the years and have all tried to do more of a centralized approach where they say, you don't need to be in thousands of locations. You need to be in a dozen or so. And that proves out over time to not be true that -- that's where the congestion is, that's where you have challenges. On a normal day, you can deliver a certain amount of traffic from those locations. It's also where it's the most expensive to get data center space and that sort of thing. So being at the edge is a real competitive advantage. We've also -- are very -- we spent a lot of time in energy and effort around reliability and safety. You probably saw recently a competitor of ours went offline for about an hour, where they were enabling customers to make changes rapidly and just pushed them out to the network and someone inadvertently took the home system down. We've designed safeguards to ensure that, that doesn't happen. So when it comes to reliability, we're certainly -- that's an area that we certainly stand out. And then when you have those big days on the Internet, you might have several major software updates, a big game publisher or a new movie comes out or something like that, and you see the Internet being really stressed. That's when we shine the best because we're on the other side of where all the congestion is, so we're able to deliver a much better performance.

So clearly, there's new competitors that come in all the time that are trying to deliver something newer, better, which probably has some effects on pricing. Can you talk a little bit about the pricing environment now and what you see going forward?

Yes, yes. So over the 20 years that I've been here, we've had a number of competitors. The CDN highway is littered with a number of companies that tried to come and say, "Hey, I can do everything Akamai can do, and do it cheaper." And then they've gone by the wayside. We've got some well-funded competitors now that have gone public that people talk a lot about. But it's been the same. They come in and say, "Hey, I can do everything cheaper," and that sort of thing. But really, it's -- there's a unit economic issue with the CDN business where volumes have continued to grow at incredible rates and prices have come down. So generally speaking, our input costs have gone down. Bandwidth prices have gone down. We get -- we spent a lot of time getting making sure our servers are more efficient, and that drives our costs down because you can get more throughput per machine. Therefore, you get more efficiency in terms of the dollars you pay for colocation and power and that sort of thing. So we're maniacally focused on driving down our costs. But the pricing environment has been deflationary from the very beginning, the very first day I've got here until today. I don't see that changing. We've been able to maintain very high margins by driving costs down. But also, as I talked about at the very beginning, layering on new services on top of those same servers. Really, we see a lot of the price pressure is in the high-volume media business where volumes are going up at dramatic rates and unit costs have to come down. So nothing that I haven't seen. I'd say the pricing environment is pretty much the same. It's routine. We actually build our 3-, 5-year models assuming that prices continue to fall. And we have many different projects that we're working on to drive our costs down so that we're able to maintain healthy margins.

Good. Well, we usually -- we have questions for the end, but this question came in, and it seems very appropriate with what we were just talking about. The question is, what percentage of clients using CDN services also use one or more security services? And does the security offering generally serve different clients?

Yes. So we've talked publicly in the last call, I think I said we have just about over 60% of our customers today buy 1 security product. We have roughly 30% or so that are buying more than 1 security product. So there's a pretty high level of customers that are using not only just 1 security product but more than 1 security product. There are some offerings. There are customers that buy security only. Think of the IT security. You don't have to be a CDN customer to leverage our enterprise security products or our mobile security products and that sort of thing. But generally speaking, the 2 go hand-in-hand in terms of web security.

Especially the way you were describing it earlier because it's -- it can be done right off the same platform.

Yes. Yes, exactly. A lot of times, as you're doing the delivery, you're doing the security at the same time.

So that makes it easier for the customer at the end of the day. Customers like ease.

They do. Yes, Absolutely. There's no doubt. And that's something that our customers constantly push us on is how do you make things easier to use, simplify the system, et cetera? With us, we have so many different products and configurations that we can tune a system to do pretty much anything for our customers. So there's just added complexity that comes along with being more sophisticated and having more -- a deeper, richer offering. But we're always working at trying to simplify, giving our customers more tools, making it easier for them to do self-service and that sort of thing.

Yes. I understand that the other night when I was -- when we were trying to get the TV to work, and my wife started screaming like, "Why can't I just talk to the TV and have it work?" I said, "There are those."

Yes. There are, yes.

So let's go back and focus on security for another minute or 2 and talk about high -- the recent high-profile attacks and security breaches that have gone on. How does that affect Akamai?

Yes. So any time there's a heightened awareness around security, it does cause customers and people who aren't customers today to start asking questions about, okay, what is that attack? Are we vulnerable for that attack? What else aren't we thinking about? I know that in a lot of boardrooms, cybersecurity is one of the top 2 or 3 things that companies are talking about. So any time you see these attacks, and it's in the news, it does raise the awareness of our customers. And we do tend to see more interest in what we're doing. Depending on the different type of attack, there's solutions that we have to thwart the attacks. Tom Leighton was on CNBC last night talking about some of the recent attacks and did a really good job explaining kind of the current way the IT environment is set up, where the analogy he used was, think about your building, your physical security. You don't give somebody a key that can get into the front door, but can also get into every single office, every single file cabinet, et cetera. But that's the way the IT security is set up today. You let someone in through your VPN, and they have unfettered access. Not the safest way to do things, that the way of controlling the access and what applications folks are allowed to use as a smarter way of doing things. So this notion of Zero Trust is an area that we're investing an awful lot in. And in some cases, that would have prevented some of these high-profile attacks if someone was using that type of security posture.

Great. And it would -- it certainly makes sense when the 2 pieces are so interconnected as the CDN business is with the security business, that it would seem like that would make it easier for the customer to control those keys rather than you have to use multiple different vendors for that.

Yes. Certainly, when it comes to all of your web applications, absolutely. When it comes to your IT environment, it's a bit more complex. There's a lot of things you need to think about there. And as I said earlier, it's getting more and more challenging for the IT professionals because, certainly, the pandemic taught us that you can work anywhere. So your employees are working remotely. Your applications aren't all sitting in one data center. People are moving more and more stuff to the cloud. And that just creates a lot more challenges for the IT professional, lock down everything and make sure things are secure. You may have the right credentials to get in behind your firewall. And unbeknownst to you, your device may be infected. The malware starts spreading throughout the network, exfiltrating data out to bad sites, and people are stealing your information, and that the security posture is to say, well, I know it's Bob. He logged in.He had the right credential. He has the right to be in behind here, but somehow, we missed the fact that there was some malware. And by the time we figured it out, it's too late. Sensitive information is out somewhere up in the world.

So let's go back to the CDN business. It feels like Akamai is exposed to some pretty favorable tailwinds right now, like cord cutting, OTT video, rise of gaming, so many other things that would seem like that they would be beneficial for you, especially the way you described how integral you are to things like video. So can you touch on these tailwinds and the benefits for the business, and what you think will be the biggest impact over the next few years for Akamai?

Sure. Yes. It's funny. Tom and I have talked on numerous calls in the past about an inflection point at some point that you might see cord cutting go from single digits to much more meaningful numbers. And more and more users taking advantage of the Internet as a way of entertainment, whether it's gaming or video. And those tend to be the biggest traffic pushers, so that tends to be the biggest mover in terms of revenue. And I think the pandemic was probably a good example of what can happen. And we saw our double-digit revenue growth for the first time in a while. And if you look at our Media business, it was growing in the low-teens. And that was due to the fact that you had a rush of people all of a sudden going online, and we saw traffic basically a year's worth of traffic show up in a quarter. And as -- and that -- as you see the explosive growth in traffic, it will manifest itself in higher revenue growth. So to the extent that we see this trend continue or accelerate, that's a good thing for us. What's interesting for me is looking at the pandemic where we saw a massive jump in traffic really starting the second 2 weeks in March and really lasting into April and the second quarter. And I talked about this on our last earnings call, one would expect you to see a big spike in traffic and then it would sort of normalize down once you get back into normal life. But we didn't see that. We actually saw a new baseline created. And we haven't seen a drop in traffic. We've seen sort of a new level of what we'd call sort of our day-to-day or sustained traffic. And I think a lot of that has to do with the fact that the pandemic introduced a lot of these services to people who probably hadn't used them in the past or were gamers that hadn't picked up the console in a while. And we're seeing that now most places are open. We have lockdowns in certain areas, and we're still seeing that sustained high level of traffic as we talked about in our last call.

Wow, and it definitely doesn't feel like that, that's ending as well as all of the new streaming services that are coming at of the video side, right? And every one of the -- whether it's Peacock, Paramount, Disney+. And so the growth of those -- so is your business going to be correlated to the continued growth of those streaming services?

Yes, certainly. As those services -- new services come online or they go into new countries or open up new markets when they launch new content, generally, you see a pickup. There's not a direct correlation to number of subscribers per se. Think of it more of like the gym membership. We might have 5,000 people show up at the gym, but only 2,000 go on a regular basis. We make more money off of people that go on a regular basis because the more -- the power users that use a lot of -- consume a lot of traffic is what generates revenue for us. So the more -- the greater the adoption, the longer engagement times, that's generally beneficial for the CDN providers. The other thing I'd mention, too, that's not as much traffic but more of a shift in how people do things. Think about it as you're in the pandemic and you're afraid to go shopping, you're ordering things online, you're doing your banking online. I think it introduced a lot of people who probably weren't using the Internet before to getting comfortable with ordering stuff online, getting stuff delivered, doing your banking transactions, not going to the branch. I'm dating myself here by talking about branches, but that sort of thing. So you do just see just the general growth of the Internet as a result of what we just saw in the pandemic, and we're seeing that persist.

No doubt. All my children were depositing their checks using their phones, and I was still going to the branch to deposit them. And now I do them right at my desk. So yes, it is amazing what that's done. I think one of the things you just touched on might be valuable for the investors to understand is what is the kind of pricing model? How does increase traffic by those 2,000 people drive revenue for you?

Yes. Pricing can vary from customer to customer. It's sort of as a general rule, think of it as a use -- a usage-based type model. A lot of customers will make some level of commitment. Think of like your phone. You commit to a certain number of minutes and then there's an overage for if you're using more of your -- the minutes that you signed up for. So to the extent that users are engaged for a longer period of time, more users at higher bandwidth, so the better the quality, the more bits that go across the network. In the media space, that's typically how that model works. So as traffic grows, revenue grows. When you get into some of your smaller applications that don't drive as much traffic, sometimes it's based on, say, a per application or there's just, in some cases, will include up to a certain amount of traffic and a monthly recurring fee. But really, the main driver of the media business is more of a per-bit type pricing.

So let's broaden out and go a little international for the last couple of minutes we have here, Ed, which is, can you talk about how your international business has been a significant growth contributor over the last several years, and what you see for the outlook for that business going forward?

Sure. Yes. So international has been a great part of our business and growing very, very quickly, much faster than the rest of the business. And a lot of that has to do with the fact that we made investments in that part of the business. Most of our competitors are U.S.-based. And it's hard to do business outside the U.S. You need to, first of all, build out your infrastructure, because typically speaking, if you're selling to banks or to commerce customers or even media companies that are serving their sort of local area, you need to make sure you have the infrastructure. You can't be delivering video in Singapore from the U.S. or in Japan. It just doesn't work very well. So you need to have the investment in the infrastructure. More importantly, you need to find the right team, and that's really challenging, to find the right team, make the investment, build out the right sales and support. Customers want to have local language support 24-hour -- 24/7 support. A lot of times, you have to make the investments in your products to confine with different things in different countries, sometimes, just making sure your support's in the right language and that sort of stuff. There's nuances in each country. So there's a significant investment that's required to be able to compete effectively internationally. And we've made those investments a long time ago, and they're really bearing fruit for us. We're seeing strength in a lot of different areas. Asia is an area that's been growing very rapidly for us. Latin America is another area where -- that's been incredibly underserved over the years by the CDN industry. It's one of the more challenging environments to do business just from a number of perspectives, but just the way the telcos are designed down there and just delivering traffic is challenging. But it's just a challenging place to do business. India is another area that's been a nice growth area for us. And a lot of our customers, both here in the U.S. and internationally, do turn to us because we have solved a lot of these challenges. And we have, by far, the biggest deployments and the most capacity outside the U.S. And that's very tricky for anyone who's either trying to do it themselves or somebody who's an upstart competitor trying to compete with us.

So someone recently commented to me that Akamai has -- is underappreciated a lot of times because of your -- diversity of your business, the consistency of your performance and the fact that you're profitable. I would expect that you would agree with all of those.

It's one thing. Profit is a good thing. I don't know how all of a sudden profit became a bad word. But yes, no, we've done a really good job scaling the business, and we've expanded our margins significantly over the last few years. And we've been able to make investments at the same time. And that -- I think we don't get enough credit for that, to be honest. It's a -- if you think about the executive team, I'm very lucky to work with incredibly talented executives and incredibly talented employees that took on a challenge of expanding margins. Making a public statement that by 2020, we'd have 30% operating margins by 2020, and we actually exceeded that goal. But we also had a security business that last quarter, grew at 29%. So to be able to balance those 2, drive out costs, be able to drive scale in the business, and invest and have a growth engine like we have with security is pretty impressive. And yes, I think you could say some people are probably underappreciating that.

Well, congratulations on all your success. I know we're at time now, and we covered a lot in that 30 minutes. I want to thank Ed McGowan, CFO of Akamai Technologies; Tom Barth, Head of Investor Relations. Thanks for joining us at the 44th Nasdaq Investor Conference, and we look forward to having you join us for many, many years to come. Thanks again.

Absolutely. Thanks, Bob. Really appreciate it. Have a nice day.

You too.