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

[indiscernible] Akamai. We're excited to chat all things security, CDN, edge compute, delivery. I guess I'll just jump into it. So Tom, Co-Founder of Akamai. It's our 25th year in business, as we just mentioned, huge feed in technology.

Can you maybe start high level, give us an overview on Akamai's product offerings in the different subsegments that you play in?

Sure. We got started in delivery, created the CDN business. We're still the market leader there by a good margin. And about a decade ago, started in... -- what? Are you okay? Yes. Then about a decade ago moved into security, web security, in particular, and created the segment of application Firewall-as-a-Cloud service. and market leader there, growing very nicely. In fact, Security is now our largest product line this year. And that was sort of a big change starting as a delivery company. And then the third category is compute. We actually started with real edge computing in the early 2000s. We had Edge Java. There was Edge WebSphere, literally GM, you could configure your car online using WebSphere, but the edge computing version of it, little before our time though. And that wasn't especially successful, but we've been doing real edge computing since then, most recently making large investments in core cloud computing. And we're working on the capability to get containers and VMs in hundreds of locations ultimately. And I think core cloud computing, obviously, an enormous market. AWS gets a ton of credit for really creating that industry and something our customers want to see us move into, and so we're making a lot of investment there now.

A lot to dig into. I guess we'll start with CDN. It's still a really healthy chunk of your revenues. But the market has its own challenges. When you talk about commoditization, the price erosion with that, and we've seen it in Akamai numbers as well. So how do you think about the market, especially on a go-forward basis? And how important is it to your clients now and the rest of your portfolio in the future?

Well, I think delivery is really important. Most of the world's major brands use us for the large majority of their delivery. We're doing over 250 terabits per second, and really vital, I think, to the Internet and to our customer base. That business has declined a little bit in revenue over the last few years. It's something we're looking to stabilize. Traffic growth, annual traffic growth did tick up in March, which we were hoping for because it sort of ticked down. Last year in March was a pretty rough year for the world, and so we're happy to see the traffic growth now be at better levels than it's been for the last year. Obviously, commoditized pricing is still continuing to decline on a per unit basis, but at a slower rate and a lot of players in that area, which makes it very competitive. But an important business, and we're the leader by far, and it's critical for our customers.

And how do you differentiate yourself in a commoditizing market?

The best performance, the best scale, the best distribution. So the typical customers will use us for a very large segment of their delivery, if not all. And it's -- and literally, it's based on the -- we'll deliver the content faster. The video will be at a higher, better picture, less rebuffers, just overall quality, and competitive on price. And we can deliver in the hard locations around the world or even in the harder networks in the U.S.

Can you walk us through, too, if we think about web delivery today, it's not just CDN, security is a very important aspect. So how do you think about that at Akamai? And how does it really complement your delivery business?

Yes. So security is very important. And it's a Segment-as-a-Cloud service that we created, and we're unique in doing that in the same platform, the same CPU, the same colo, the same kilowatt hour as the delivery. And so as we're delivering content, we will protect our customer. We'll protect your bank account as we're delivering your bank balance. We'll make sure it's really you that's accessing your bank account. All of that is done as part of the same transaction. It's not 2 separate things, which makes it very cost effective, performs very well and also give us the best possible security.

And can you walk us through which products you really specialize in security? No, we look at Cloudflare, we look at Fastly, we look at the hyperscalers, too, who have their hands in security for web delivery. What is it that is Akamai's secret sauce being successful? And where is the market focus?

Yes. So the flagship product would be web app firewall. We're the market leader in that by far. In fact, according to the analysts, we grew our lead in terms of capabilities there. On top of that, we're the leader in bot management that reached about $0.25 billion a year run rate, growing very well. There's other capabilities on top of that account protection literally so that if somebody stole your credentials, tried to access your bank account. We can tell that it's not you even though they have your credentials, and that's very helpful. And so widely used by financial customers. Page Integrity Management to catch and block malware that's gotten into the digital supply chain, that will be a requirement for PCI compliance beginning in '25. So that's on the app and AI security side. Most recently, API security, we acquired a company we really like called NeoSec. It's a new area. The attacks are just in the last couple of years. Typical large enterprise has a lot of APIs, and they don't even know all the APIs they got. A lot of them are not protected and attacks are coming in that way. And it's a very nice adjacency to web app firewall. And so I'm very optimistic about the growth in that area. We also do infrastructure protection. This is the DDoS attacks at the routing layer with Prolexic, slower growing. We did have very good Q1. The Killnet attacks very damaging to major medical centers in the U.S., Russian-based -- Russian sympathetic group, attacking infrastructure. And so we're able to help a lot of major companies with that. And then, of course, on the enterprise security with Zero Trust led by Guardicore, where, again, we've now become the market leader in segmentation, which, I think, is probably the most important defense an enterprise can have. Today, you can buy everybody's products, ours and everybody else's, malware still gets in. And the key is to identify that this has happened quickly and proactively block it from spreading, so you limit the blast radius. And that defends you against ransomware and data exfiltration, and that's growing very well. So that's exciting.

I'd love to dig a little bit deeper into Zero Trust. And we hosted Zscaler earlier today. And Jay was talking about their vision of Zero Trust. We hear a lot of other companies, cloud players in the market saying they have a Zero Trust solution. How do you think about Zero Trust?

Yes. Was Zero Trust has come to mean everything in security, just like edge has come to mean everything in the Internet so it's less of a useful term. When we look at security, our goal is to protect applications. And in terms of the internal enterprise applications, we do that through placing an agent, a software agent on every app on every container, can be on every switch, if you want, an agentless version. And it's a mini firewall. And it works with legacy OSs, so it can protect your legacy applications. And it governs what can talk to what? And it gives you visibility in terms of what's going on. Can also identify for you if they say you get a 0-day vulnerability like log 4G, we can tell you within hours where you've got that vulnerability. And otherwise, it takes weeks or longer to do. So I think protecting the applications. And of course, we that firewall does that. That protects your applications from external users. Guardicore segmentation is protecting your apps from malware that's inside from spreading. And so that's how we look at it. And that was -- it sort of corresponds to the, I think, the early notions of Zero Trust, also protecting apps from internal users in their devices with our application access. But today, Zero Trust sort of means everything.

We've heard that a few times before. And I also want to dive into application security before we turn to more [indiscernible] of your future growth. It's just going to be in the edge and compute. But for application security, we hear Zscaler coming into the market. We here have a bunch of startups coming into the market. Why would someone turn to Akamai and saying this is who I want to buy it from versus networking security versus end point?

Because it's really close to application firewall, where we're the leader by far. And our customers have been asking us to do this. In fact, I think Gartner did a study where half of the respondents said they look to Akamai to provide this service. So it's a very natural adjacency. And for those other companies, it's really not. And a startup is complicated because our banks and major enterprise is going to trust the startup with all their internal stuff. That's a leap. It took a long time to get them to trust us with all the secrets. So it's a very natural thing for us to do. We're in the process of creating a very seamless integration with our application firewall. Neosec already had integrations with the leading sources of traffic, firewalls, load balancers. So I think it makes for a compelling solution from Akamai. Also, they're unique and they record everything. The whole transactions. The other companies in the space don't -- and so you can't do playbacks. You can't really do the forensics on it, and you don't have as much information to make intelligent decisions on.

So security now accounts for a large majority of your revenue is growing really strongly. Are customers starting to land with security? Or is it still more of a cross-sell motion?

Well, yes, our sales force, the lead, by far, is security. Pretty much everybody knows us for delivery and we've got a lot of penetration there. But security by far is what the sales force is leading with today.

And when you think about innovation, you've made some great acquisitions to really enhance your position in the security market, how do you think about build versus size, especially going forward?

It's a blend. We get a tech tuck-in. Guardicore, they've been working on this for 10 years to create what became now with Akamai, a market-leading solution. So you need both. And with Neosec, we're investing a lot around that, but we have a good seed to work from. Sometimes we do the seed ourselves and just do it organically. Webapp firewall, that's been entirely organic. But I think it's a blend that's important.

Got it. So anybody have any security questions before I move on to edge compute? Perfect. So Akamai is at a really interesting inflection point right now, announced a $500 million CapEx investment into really reinforcing your network infrastructure. I guess I'd love to hear, in your terms, edge compute, more core cloud computing. Can you tell us, first of all, why is it so important to distinguish between the 2? And then where you see yourselves in the market?

Great question. The investment in the CapEx is in the core cloud compute, and that's building the next generation of Linode to make it so it can work for big enterprise, big applications. Linode focused on small and medium business, low ARPU, very popular with developers, very easy to use, very inexpensive, all great, but big enterprises really couldn't use it for big applications. And big enterprises with big applications is our specialty. And so we're in the process of building out new core data centers with a new architecture that will scale for big enterprises, have vastly more capacity, new storage, object storage capability that big enterprises will need, getting the certifications big enterprises need and the basic functionality. And that's all taking place through this year. And that's, today, would be core cloud compute, what the hyperscalers do. Now you mentioned edge computing, and that's another word that got abused. When we using -- we've been using term edge computing for over 20 years. And for us, it means compute in not 2 dozen locations, but in over 4,000 locations. And today, we do JavaScript-as-a-Service in over 4,000 locations. We'll spin up an app in 5 milliseconds based on user demand, where they want it. So great scalability and performance. And we've been doing true edge computing for a long time. Now I think, in the future, that is an important market. It's not a huge market today. 99.9 something percent of the revenue is in the core cloud compute, what the hyperscalers are doing. Over time, I think that moves more to the edge. Now the next phase for us after we get the core data centers built out, which mostly will be done in Q3, is what we call our distributed compute. And that will be the ability to take containers, Kubernetes, VMs and put that in hundreds of locations that already exist in our platform, hundreds of cities where we've got our servers and footprint. And now we won't have to build out new infrastructure to get basic container support there. And that's something that we're working on now and hope to start deploying in beta late this year and then early next year. And ultimately, we'd like to be able to spin up containers where they're needed on demand, based on user demand so that you don't have to figure out ahead of time, "Oh, I'm going to need 10 VMs in Paris when I'm doing this event." And if you guess wrong, and you really needed 20, you're screwed. And if you didn't need the 10, you overpaid. Much better if it spins up on demand, and that's what ultimately where we're headed with this. So you get much better performance, much better scalability. And of course, it will be at a much better price point because we do this stuff much more economically than you see in the market today.

So we'll dig into price for a second, but I just want to take a step back because what you said was pretty important, I think, to where the edge market is going. I think there's a misconception right now that edge compute is for gaming, it's for ticketing. And maybe the use cases are a bit more limited. Can you maybe give us 1 more example of another use case that investors should really be focused on for the meat and bones of edge that's outside of more of the traditional use cases that we think about?

But real edge, it's something that you want to be within 10 milliseconds from the end user. It could be any application or at all that's chatty. Like you want to buy something. The APIs today are very chatty. Like you think you're doing one thing, one click, underneath, there's a ton of back and forth going on. And every time you get that back and forth, you're picking up the latency. And if you're at 70 milliseconds or 100 milliseconds and you got 20 back and forth, that's a disaster, really slow. And plus, it's really expensive today with the hyperscalers. If you're 10 milliseconds away, much better, and now you're viable. And so it could be anything. And also that it's user-specific session based. So any transaction that you would do that you want to have a fast response. Non example would be QA testing. I put that in the core. You don't need to be close to the end user. But any time where your device is interacting with something, like another example, you wouldn't think of being like this but is transcoding. In fact, our largest user now of the new capability for computing is a big social media company. The first app they put on the platform was the ability so they've got a service where a user makes a video and they want their buddies to see it. So they upload it. It has to get encoded. It has to get ready for distribution and then users can see it, and they want that to happen fast. In fact, they want the user to be able to see it fast. And that now runs on our core cloud computing becoming and the more distributed version of it. And for them, it was the low latency that was important for the performance, and we could do it with better performance than in the bake off with the hyperscalers and of course, costs. They care about that, and we can do it more economically. And you wouldn't think taking a user video and putting it online, that would be something important on the edge. Well, it is. And the closer we can get the better. Another example is live streaming. We have, in fact, a very big cloud company using us for live streaming because they want the video tailored to what the end user's experience is and that needs to be done close to the end user. And they'd love to see us do that in thousands of locations. Today, we don't, but probably we're in 50 locations for them, but that's something that will migrate into this next version that will be in hundreds of locations. And that's a very big cloud company.

Those are great examples. And I guess, competition and pricing go hand in hand. So talk about how Akamai fits in with, first, the hyperscalers, but then also other competitors in the space with the fast lease, the cloud players?

Well, first of all, Fastly and Cloudflare do not do this. They have Java Script -- Cloudflare has Java Script as a service. Fastly, you can morph it into doing that. Neither of them operates containers or VMs as a service, don't have it, can't support these applications that I'm talking about because you can't do that in JavaScript. So they're not competitors. Our competitors are the hyperscalers, and they do this a lot. It's an enormous market. And so we are going after a segment there. And the good news is we can do it -- the movement of data we can do less expensively. They'll have less cost on the CPU and the colo because just at their scale. And right now, I would say the margins in that space are very high. And so that gives us an opportunity to come in, especially for existing Akamai Media customers and offer them a service that will perform better, it will be lower cost and will make very good margin on it. And it's -- but it is competing against the big giants to do that. And it's -- we're going after a small segment of a giant market. But for us, it's potentially billions of dollars, which matters a lot. It's too small to matter to them.

No easy feat though going after the hyperscalers?

No. But we've been doing that, well, for 15 years on delivery and probably 7 or 8 years on security, right? CloudFront is, I think, 15 years old. And we compete with those guys even for their own business. And 2 of the hyperscalers are our largest customers, even though we compete with their internal offerings. And that's because we do a better job at what we do. We perform better. We have better security. And we have a very competitive price point. And we're going to do that for the kind of compute that we do, same thing. And we'll be competing with them on compute for their compute business.

And then I want to talk about AI, too. If you just think about potential just going back to potential opportunities here. Obviously, the buzzword think of the year. So could you talk a little bit around what potential opportunities are both internally from how Akamai is going to leverage it in your own products, but also externally customer opportunities?

Yes. So AI broadly construed we've been using for a long time in our security products, in particular, heavy users there. The recent buzz around large language models, LLMs or GPT, generative AI, less use. Our developers are playing with it for QA, can it find bugs. I don't think we're going to be using it anytime soon to write code. There is a problem where the attackers can morph malware to create lots of different versions of it, which is problematic for signature checking. That is a potential problem. I don't know that it really helps us in a fundamental way. Now yes, marketing documents, all that kind of stuff, probably there're some uses there. In terms of the business, it takes a lot of compute cycles. And anything that sucks up a lot of compute, good for people in the space of selling compute. Now today, that stuff is GPU-based. And we support GPUs with our compute infrastructure, but we're not making major investment there right now. And that's because, a GPUs, the economics aren't necessarily as good. The big people -- big customers that want GPUs are the gaming companies. And there's 2 challenges. One is different gaming companies may have different specs on the GPUs you want, which makes it a little hard to have a shared service. And the other is they tend to want the latest GPU each year, and that makes it harder to monetize the initial investment over a period of years. Now we can go there, but we're not right now. We have the technical capability, but it's the financial decision. Now with large language models, yes, it's a good question. We're not running out buying a lot of GPUs. The creation of the model that's going to be done in the core. The actual response to your queries, good reason why that could be done at the edge, that is lighter weight. And actually some companies working on capabilities to do that on CPUs just as efficiently, which would be better, that's -- as a whole. And yes, maybe that we would support down the road. But day 1 doesn't change what we're focused on in doing. Longer range, yes, maybe. It's good for the people who are selling compute as a whole for sure.

For sure.

And it is an interesting advance. It's -- the reliability is terrible. But it does give human-like responses. So it parses very well. And if they could get it so it's somehow more accurate, pretty interesting, I think.

And I guess, how early is the edge compute market and the core compute for what you're doing? Do you still need to do a lot of market awareness and market education for your customers, or most of them understand what they need?

Well, edge compute, we've been doing for over 20 years, and it's growing nicely, but it's small. With IoT and more edge applications, there's more of a need for that, I think. The vast majority of the market is in the core cloud compute, and that's well established. And, for us, you'll see us marketing more as we get our platform ready. Right now, as we talked about, we've got to build out the capacity in the new architecture, that's going through Q3. We've got our first 3 data centers live. We do have a large, as I mentioned, social media company. And as we turn on new data centers, they are using a lot more of it. Great to see. And some other work that carries us into Q4, and that's when you'll see us do more marketing around it when we're really ready to start signing up more customers on it, [indiscernible] are big applications.

And actually, speaking about your investment into the network, something that surprised me was looking at your numbers this past quarter. CapEx did tick down a bit the percent of revenue, but you're still making these very large investments. So where is that benefit coming from? And how should we think about that for the remainder of the year?

Right. So we're making a big investment in core cloud compute. And that's the big ticket item that a big CapEx bill in Q1, a big 1 in Q2, be less in Q3 and way less in Q4. And from there, it will depend on how fast we sell the compute, and how fast we fill up that capacity? Good news story is, we're wildly successful, and we fill it up quickly and then we'll buy more capacity. If it takes longer, CapEx bill will be very low next year. Now what you saw come down is the CapEx as a percentage of revenue for our delivery platform. Traditionally, that was the high single digits, we've cut that in half, partly because we're not taking on the spiky traffic anymore, at least a lot of it, pricing is not right. We've walked away from some business. Partly traffic growth is less than it was historically. And of course, we're shifting focus into the compute. And so we've really -- that's much more attractive now in terms of the CapEx spend instead of 8% or 9% on the delivery network, looking at 4%, 5%, something much less. And compute will drop off substantially through the year until we generate a lot of revenue, which will be a good news scenario.

Sure. Make sense. We only have 2 or so minutes left here. I'd love to chat a little bit about economic cycle. Obviously, if you like with traffic to online shopping, great benefit during COVID, seeing a bit of a slowdown now. Can you tell us the sensitivity to your business specifically around the economic cycle? And how you've noticed the trends over the last few weeks?

Well, last few weeks, it's a pretty short time frame for trends. But yes, it's a challenging environment. We notice our big deals take a little bit longer to do. Customers need to save money. So that puts pressure. You feel it more in the security business, I think, where we are the market leader, we have the higher-priced products. And so it maybe takes a little bit longer on some of the big deals. Delivery has already been very competitive. Compute, it's a plus because we're the lower cost provider there. And so we can save companies money and they need to save money now. There is a little bit of a tailwind oddly enough with security, especially in the financial vertical and critical infrastructure. Banks cannot afford to have a blip now. An outage or a successful attack, they are scared to death that their customers will think something's wrong with the bank, and that could create them a run. They can withdraw their funds, and no bank in this environment with how they're set up, wants to see a lot of funds withdrawn. And that helps us because the lower cost providers aren't very reliable. And then we've seen a few banks try a competitor, and they had big reliability challenges, and they're back because they can't afford that. In fact, we had one bank that went to a competitor, and just in 9 months, they had more in fines from the regulator because of the outages than they would have paid Akamai for our services. So it made no sense to have the lower cost guy who just wasn't reliable. So it's helped our business that way, oddly enough.

And are there ways for your business, and we spoke with Zscaler earlier today on the security front, they're trying to navigate through this difficult time pulling a few levers that they can. Are there ways for your business to try and mitigate some of the pressure you're feeling maybe on the sales cycle elongation? Have you seen more discounting? Or just anything you can do to help with that exact pressure?

No, we just -- at the end of the day, they need the capabilities. And the fact we can bring a lot more capabilities to the table, so we'll give them more enterprise licenses, more new products. The bill will ultimately go up, but maybe they get a discount on the old product they had. So our goal is to be growing revenue in the account, and we have a lot of new capabilities to bring to bear. And so that's primarily how we would deal with that.

Great. Well, we have no time left. So, Tom, thank you so much. It was great to host you in Akamai.

Well, thank you very much.