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Young Software Rebels Defy The Cloud Crowd

Cloud computing is for real, but a number of fast-growing young software firms show that's not the only way to reach for the sky.

Qlik Technologies (QLIK), Tableau Software (DATA), Splunk (SPLK), and Palo Alto Networks (PANW) are among the young gun software vendors that have found success with an older business model. They mostly sell on-premise licenses for one large upfront payment, instead of the cloud's software-as-a-service model, where customers pay for the software stores on distant servers, which they access as needed via the Internet "cloud." SaaS often is a precursor to adoption of cloud.

A new wave using an old tech formula is a bit of a paradox, said Karl Keirstead, an analyst for BMO Capital Markets.

"Intuitively, some might scratch their heads at that," he said. "Some of the most successful, fastest-growing software companies that have gone public in the last year or two are not cloud vendors at all.

By 2016, global revenue from public cloud software services is expected to reach $210 billion, up 60% from the $131 billion expected this year, says Gartner. The research firm expects total software revenue of $369 billion in 2016, so public cloud software would be nearly 57% of the total vs. 43% this year.

That, of course, still leaves a lot outside the cloud.

Splunk, a maker of software that finds performance bottlenecks in company networks, has seen 50% year-over-year sales growth in each of its past three quarters. So has Tableau, which makes software for analyzing data, and Palo Alto Networks, a maker of security software.

Qlik, another analytics software vendor, has increased revenue more than 20% each of its past two quarters.

Product Trumps Delivery

For many customers, the strength of the software is more important than the delivery method, says Daniel Ives, an analyst for FBR Capital Markets. Hot software will find customers, he says.

"They're selling the cotton candy every kid at the carnival wants," Ives said. "When you're in that situation, you can sell that cotton candy any which way you want.

Software-as-a-service allows companies to avoid paying large license fees upfront while giving users more flexibility.

Even so, companies with a product that outperforms rivals in growth areas such as data analytics will gain traction, said Keirstead.

"If you have a differentiated product in a hot space — and in the case of Splunk that would be the data analytics space — then even with an on-premises model a company can post healthy growth rates," he said.

Splunk shares have surged 68% for the year. Qlik is up 39%, while Tableau has leapt 84% from its $31 IPO price on May 17. Palo Alto Networks, however, is down 19.5%.

It's a software maker's growth rate and prospects that interest investors, not the delivery model, Ives said.

"Good, sustainable growth names in this market are few and far between," he said.

Among the four, only Palo Alto has reported any consistent quarterly profits, and even that company is showing little or no EPS growth. But for now investors in young companies like Splunk care more about growing market share via research and development and sales and marketing investments, Keirstead said.

"It's about trying to stay ahead of the competition on the Big Data side," he said. "Investors are giving them that flexibility.

But just like longtime business software giants Oracle (ORCL) and SAP (SAP), which grew as sellers of on-premise software, this younger generation also also sells some cloud software.

Splunk says its Splunk Storm cloud software had more than 200 customers as of the end of Q1, up 40% from the previous quarter. It doesn't break out figures, but that's still just a small part of its business. Tableau and Qlik also are working on cloud offerings.

In the meantime, despite the growth of cloud computing, not every software customer is thrilled.

A Gartner survey last year found that 57% of 1,702 companies polled said they will never place their critical business intelligence and analytics data in the cloud. Only 30% said they would be willing to do so.

The fear of customer, employee or patient information falling accidentally into the wrong hands is the main reason companies give for avoiding the cloud, says Gartner analyst Rita Sallam.

"The willingness to do mission-critical analytics in the cloud is really low, particularly for certain sectors like financial services, health care and government," Sallam said.

Ives said that "Security around the cloud has been a major concern of customers," adding that it could end up a constant issue.

Hard-to-follow pricing formulas also have slowed cloud adoption.

For some companies, demand for cloud software "isn't there," Sallam said, especially because some vendors "have made the pricing so complex — you pay a certain amount per user for this capability and if you have additional data sources you add more and if you exceed this much data size you add more and if you have applications you add more."