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Rackspace soars on buyout talk

Aaron Pressman
Daily Ticker
Rackspace soars on buyout talk

Internet cloud services provider Rackspace’s (RAX) stock price hit the metaphorical clouds on Friday after it announced the hiring of Morgan Stanley (MS) to consider selling all or part of the company.

Shares of Rackspace were up 17% to $36 in early afternoon trading following Thursday night’s disclosure that the company was set to, as they say on Wall Street, explore strategic alternatives. Rackspace said it had been approached by "multiple parties" interested in deals “ranging from partnership to acquisition.”

Until the announcement, Rackspace shares had been having a miserable year. CEO Lanham Napier left in February and a replacement search is still underway. And deep price cuts from seeming competitors Amazon (AMZN), Google (GOOG) and Microsoft (MSFT) have spooked investors worried that a price war may be breaking out.

A different approach

But all cloud services are not alike and Rackspace, which increased revenue 16% in the first quarter and 17% all of last year, has a different approach than the big three.

Amazon, the market leader, is winning business pitching its AWS platform as a place for companies to build their own websites and services, whether its Netflix’s (NFLX) massive video library or a tiny Web startup just getting off the ground. Similarly, Microsoft’s Azure and Google Cloud are looking for companies and developers in need of the basics to build on top of.

Rackspace, by contrast, is aiming to do more for its customers, seeking not the sophisticated developers but those with a need for far more hand-holding. The competition is from other big companies, but ones that so far have much smaller market share, such as IBM (IBM) and Verizon (VZ).

Possible bidding war

And that’s what has analysts salivating over a possible bidding war for Rackspace. The huge growth in cloud computing, essentially renting computer servers connected to the Internet instead of owning them, so far has been largely about the basic, foundational services. As the trend expands, however, analysts expect growing demand for fuller service offerings, so-called hybrid clouds that include a lot of software and customization.

IBM bought Softlayer Technologies last year for about $2 billion to jumpstart its cloud offering but could still be looking for additional scale through another acquisition. Similarly, Verizon paid $1.4 billion for Terremark back in 2011.

Other flailing tech giants such as Hewlett-Packard (HPQ), Dell and Cisco Systems (CSCO) might be the most likely buyers, notes Credit Suisse analyst Sitikantha Panigrahi.

“The adoption of hybrid cloud by enterprises represents the next phase of growth in the overall cloud market, further illustrates the shift in the battlefield from hardware to cloud, and places increasing secular pressures on hardware companies to offer cloud services to enterprises,” Panigrahi wrote on Friday. “HP, Dell, and Cisco have expressed intentions to be players in cloud computing, and have been active in the space but have yet to make any acquisitions.”

Other analysts suggest AT&T (T) or EMC (EMC) could be potential bidders.

Rackspace traded as high as $54 last fall and a strategic bidder might be willing to pay a similar price now, some analysts say. Panigrahi set a $47 price target while William Blair analyst Jim Breen favors the $54 level.

For previously disappointed Rackspace investors, either price would provide welcome relief after a miserable start to the year.