More CDN Pressures Ahead

It's time to sell Akamai Technologies Inc. (Nasdaq: AKAM) and Limelight Networks Inc. (Nasdaq: LLNW), says one analyst.

Citing pricing pressures due to increased competition and more multi-sourcing of content delivery network (CDN) services by customers, Kaufman Bros. LP analyst Sameet Sinha lowered his 2008 estimates and price target for Akamai, downgrading the company from Hold to Sell.

But Akamai isn't alone. Sinha expects Limelight to feel the pain as well, initiating coverage of the No. 2 CDN player with a Sell rating.

As part of a research note issued yesterday, Sinha lowered his 2008 revenue forecast for Akamai from $797.6 million to $778.7 million and adjusted its EBITDA target from $365.1 million to $360 million.

As a result, he also lowered Akamai's price target from $33 to $25. He initiated coverage of Limelight with a price target of $6.50, nearly 20 percent off the current share price.

More competition could take business away from the larger players in the CDN business and lower margins, especially as customers increasingly use multiple companies to deliver their content. (See CDNs See 3 Price Pressures.)

The CDN business has seen a large number of new entrants, including startups like Panther Express Inc. and CacheLogic , while companies like Level 3 Communications Inc. (NYSE: LVLT) and Internap Network Services Corp. (Nasdaq: INAP) are buying their way into the market. (See Level 3 Looks for Big CDN Push, CacheLogic Fires Up Its CDN, and CDN Startups Talk Tough.)

That has led to lower prices, especially for large media deals. In his research note, Sinha writes: "Many players are resorting to discounting, especially smaller companies, to gain share and scale. We expect the competitive environment to intensify as Level 3 relaunches its services in Nov. 2007 and other players such as CDNetworks Co. Ltd. and Panther Express increase their sales footprint." (See CDNetworks Pushes Into US.)

The greater number of CDNs also means that customers have taken to using multiple providers for their services, which will result in lower sales and lower margins for Akamai and Limelight.

"Multi-sourcing of CDN operations is gaining momentum among customers for fail over and pricing leverage. As a result, Akamai, who has historically enjoyed a virtual monopoly status, could see its business split up," Sinha writes.

One example of that is Apple Inc. (Nasdaq: AAPL), which has traditionally been a customer of Akamai's. According to Sinha, Apple recently opened up its CDN business to a competitive bid and could use multiple providers for delivery of iTunes music. While Akamai will probably not lose Apple's business entirely, the company could see a revenue hit from iTunes using multiple providers.

Another way multi-sourcing could hurt Akamai's business is by reducing high-margin revenues the company collects for overage charges. Noting that overage prices are greater than Akamai's monthly commitment rates, Sinha says competitors are targeting this revenue stream as switching costs decline.

"As customers reach their maximum monthly commits, they could switch to the second provider for the rest of the month, rather than pay higher overages to Akamai," he writes.

— Ryan Lawler, Reporter, Light Reading