AI Frenzy Sparks 36% NET Stock Rally; Cloudflare Is On A Mission

Cloudflare (NET) is enthralling investors with its prospects for generative artificial intelligence, driving a rally of nearly 40% since it reported third-quarter results last month. The AI frenzy represents a major rebound for NET stock, which saw a huge sell-off in late April on softer-than-expected forecasts.

X

San Francisco-based Cloudflare integrates machine learning and AI networks with various cloud connectivity platforms, including those of Microsoft (MSFT), Amazon (AMZN) and Datadog (DDOG). It also makes software for firewalls, routing, traffic optimization and other security and network services.

Founded in 2009, Cloudflare now operates in 310 cities in more than 120 countries around the world. There are 13,000 networks directly connected to Cloudflare, including every major internet service provider and cloud provider.

Cloudflare’s client list boasts more than 30% of Fortune 1000 companies. On the list is tech behemoth IBM (IBM), as well as LabCorp (LH), DoorDash (DASH) and LendingTree (TREE).

A Better Internet

“Our mission is to help build a better internet,” said Matthew Prince, Cloudflare co-founder and chief executive, at a recent conference hosted by Wells Fargo. “That means an internet which is faster, more reliable, more secure, more efficient, and more private.”

Cloudflare at various times has drawn comparisons to Oracle (ORCL), IBM, Alibaba (BABA) and Tencent (TCEHY), according to Prince. However, Cloudflare serves a different purpose than its industry counterparts.

The likes of Amazon Web Services, Alphabet‘s (GOOGL) Google Cloud and Microsoft Azure measure key performance indicators in terms of how much data their clouds store. Instead, Cloudflare emphasizes how much it can connect various things together to ensure the easy and secure flow of data.

“We realized that where the traditional hyperscale public clouds are really like captivity clouds … we are much more of a connectivity cloud,” Prince said. “And those two things actually work extremely well together.”

NET Stock: A Connectivity Cloud

Prince said that “everybody” — from small startups to large financial institutions — use multiple clouds at one level or another to take advantage of different bits. But doing so requires a secure, efficient control method that cuts customer spending on the hyperscale public clouds.

“As the world becomes more complicated, it becomes more and more important for something like Cloudflare to be that unifying fabric that connects all the different networks together,” Prince said.

Today, around 20% of web traffic runs through Cloudflare’s network, in addition to mobile apps, corporate networks and AI infrastructure, according to the company.

Cloudflare says its network can reach 95% of the world’s internet-connected population within 50 milliseconds and has a global network edge capacity of 228 terabytes per second.

Network edges refer to subnetworks or endpoints that are positioned closer to end users. These are directly connected to the network core. Edge networking extends cloud services closer to where data is generated in order to reduce latency and save bandwidth.

AI Opportunities

As artificial intelligence becomes the next groundbreaking technology for enterprise software firms, Cloudflare has a role to play to fuel further growth.

“We believe we are the most common cloud provider across all the major AI companies,” Prince said at the Wells Fargo conference. Cloudflare also has ties to generative AI startup OpenAI, the developer of ChatGPT.

In the short-term, Cloudflare sees an opportunity in the AI training space by facilitating the movement of large data to available resources.

“One of the big ways that they’re (AI companies) using us is how can they go find the cheapest GPU resources at any given moment,” Prince said, noting the current GPU shortage. While the GPU shortage won’t last, the ability to efficiently and cheaply move and connect data is “going to be a big business opportunity.”

AI Inferencing

The second opportunity will come via Cloudflare’s network edges for AI models too large to store on individual devices to increase speed and efficiency. This can assist with AI “inferencing,” which involves making predictions and actionable results based on live data. It is essentially running AI applications after models have been trained to analyze data.

(IBD, FactSet)

In September, Cloudflare debuted what it called the most complete platform to deploy fast, secure and compliant AI inferencing at scale, called “Workers AI.” The Workers AI platform enables collaboration with Microsoft, along with privately held firms Databricks and Hugging Face.

Prince said the third AI opportunity for NET stock is fine-tuning generic AI models for specific purposes or companies.

“I think our opportunity there is actually probably our biggest superpower because, for our customers, their data is already flowing through our network.” Prince said at the conference. “What we can do is actually take that data, which is already flowing through our network, and then feed it back into those foundational models in order to effectively make them your own.”

AI Deployment, Internet Watchdog

The company already is moving in on those opportunities. As of Oct. 31, Cloudflare told NET stock analysts that it had deployed “inference-optimized” Nvidia (NVDA)-made GPUs in 75 cities with plans to deploy chips in 100 cities by the end of the year.

In 2024, Cloudflare aims to deploy those Nvidia AI chips in 300 locations worldwide. The AI networking cards are simply plugged into computer server PCI slots, lowering capital spending needs.

And it’s making a name for itself in the security space, too. In October, Cloudflare reported it helped discover a new online threat that led to the largest attack in internet history.

Cloudflare Stock Financials

Over the past four quarters, Cloudflare earnings skyrocketed 500%, 700% and 900% before slowing to 167% growth in the third quarter. At that point, earnings reached 16 cents a share. Revenue growth has remained in double digits over that time frame. Sales grew 42%, 37%, 32% and 32% again last quarter, reaching $335.6 million. Cloudflare reported third-quarter results on Nov. 2.

(IBD, FactSet)

Cloudflare’s paying customers in the third quarter increased 17% year over year to 182,027. Meanwhile, paying customers that generate more than $100,000 in annual revenue jumped 34% to 2,558. However, the year-over-year growth rate for Cloudflare’s large-enterprise customers was flat vs. the second quarter. The rate steadily fell from 71% during the fourth quarter of 2021.

“In our third quarter, we relentlessly innovated and accelerated our efforts in AI, announcing the most complete platform to deploy fast, secure, compliant AI inference at scale,” Prince said during the company’s Nov. 2 earnings call.

Additionally, Cloudflare set a goal of reaching $5 billion in annualized revenue in five years. Cloudflare recorded $975.2 million in revenue for 2022. It already surpassed $1 billion in annual revenue for 2023 during the third quarter.

“The opportunity we have in front of us is enormous,” Prince said in the earnings release. “Even with this achievement, we’ve penetrated less than 1% of our identified market for the products we have available today.”

Meeting Expectations

But Cloudflare’s lofty goals come with lofty expectations from analysts.

NET stock tumbled nearly 24% in April when the company offered a lower-than-expected annual revenue outlook with its first-quarter results.

And a number of firms lowered their price targets on NET stock in early November. Wall Street fretted when the company’s fourth-quarter revenue forecast came up short.

Analysts polled by FactSet predict 246% earnings growth for the year to 45 cents per share. Wall Street expects 32% sales growth to $1.29 billion for 2023.

Analyst Outlooks For NET Stock

Despite missing near-term forecast expectations, investors see long-term potential for Cloudflare.

On Nov. 21, Oppenheimer analyst Timothy Horan upgraded NET stock to outperform with a price target of 85. He noted Cloudflare is well-positioned to offer edge computing.

Meanwhile, Workers AI is partnering with some of the largest tech companies. It’s seeing strong demand from both startups and major enterprises.

Gross margins and free cash flow are near-term concerns for Cloudflare. But NET stock has a long revenue ramp that should be reinforced from the benefits of AI, Horan wrote.

Cloudflare ranked 6th on the 2023 Fortune Future 50 List of companies best-positioned for long-term revenue growth. The 2023 rankings, compiled by Fortune and BCG Henderson Institute, examined more than 1,700 publicly traded companies worldwide. It based the rankings on long-term growth prospects through indicators of future potential.

NET Stock In Buy Zone

Cloudflare leads the Computer Software-Enterprise Group, according to IBD Stock Checkup, and is a member of the IBD 50 list of top growth stocks.

The Computer Software-Enterprise industry group ranks 30th out of the 197 industry groups tracked by IBD. The group is up nearly 20% this year. Cloudflare shares have an Accumulation/Distribution Rating of A-, indicating strong institutional demand.

Mutual funds make up 63% of NET stock ownership, MarketSmith data shows. The number of funds holding NET stock rose to 1,246 in September 2023 from 1,239 in June. However, 1,269 funds held NET stock in December 2022.

NET stock is trading in a buy zone for a cup base after breaking out on Nov. 29. The current buy zone, which stretches 5% beyond the entry point, extends to 79.87.

Shares have rallied nearly 70% so far this year. Still, NET stock trades well below its all-time high of 221.64, reached in November 2021.

Cloudflare has a best-possible 99 Composite Rating, which combines various technical indicators into one easy-to-read score. The company also has a muscular 81 EPS Rating based on its robust earnings growth. NET stock’s relative strength line is near 52-week highs with a 95 RS Rating.

You can follow Harrison Miller for more stock news and updates on X/Twitter @IBD_Harrison

YOU MAY ALSO LIKE:

Best Growth Stocks To Buy And Watch: See Updates To IBD Stock Lists

Looking For The Next Big Stock Market Winners? Start With These 3 Steps

Join IBD Live And Learn Top Chart Reading And Trading Techniques From Pros

Learn How To Time The Market With IBD’s ETF Market Strategy