Serverworks 4434
サーバーワークス
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Iidabashimasumoto Bldg. 2F, 1-21 Agebacho, Shinjuku-ku Tokyo 162-0824
Summary
Serverworks is a system integrator (a company that designs, develops, and operates systems) specializing in Amazon Web Services (AWS), a cloud service provided by Amazon.com, Inc. (NASDAQ: AMZN). Serverworks helps Japanese companies configure cloud systems to use AWS and provides operational support.
IT Services
Key dates
2022-01-14
Next earnings announcement
2020-06-16
Coverage initiation
Executive summary
Business overview
Serverworks is a system integrator (a company that designs, develops, and operates systems) specializing in Amazon Web Services (AWS), a cloud service provided by Amazon.com, Inc. (NASDAQ: AMZN). Serverworks helps Japanese companies configure cloud systems to use AWS and provides operational support. In the past, many companies used on-premise information systems (i.e., companies owned equipment and software, and performed operations and maintenance themselves). Nowadays, more companies are transitioning to cloud services (i.e., the service provider invests in servers, network equipment, and software and charges customers). As an integrator dedicated to AWS, the world’s largest cloud service provider, Serverworks’ revenue has been increasing, supported by a high level of expertise and the ability to respond to the demand quickly. The company listed on the Mothers Section of the Tokyo Stock Exchange in March 2019 and later on the First Section in January 2021.
In FY02/21, revenue came to JPY8.0bn. By service category, Cloud Integration accounted for 5.3% of revenue, Resale for 82.5%, Managed Service Provider (MSP) for 12.0%, and Others 0.2%. The company does not disclose profits by service.
Cloud Integration is a system integration service that introduces customers to the use of AWS. Through Cloud Integration, Serverworks determines a customer’s current status and subsequently plans for a transition to the cloud. It then helps customers with the fundamental designs and system configurations needed to migrate on-premise information systems to the cloud. Cloud Integration serves as a gateway leading to recurring-revenue businesses such as the Resale and Managed Service Provider (MSP) businesses. Serverworks has advanced AWS-related expertise, extensive experience, and the ability to respond swiftly. However, work tends to be highly labor intensive, so projects are limited by the number of engineers the company can recruit. Based on the cost of revenue breakdown, given normal operations Shared Research understands the company should be able to generate GPM of 25–30%.
In Resale services, the company adds value and resells AWS cloud services. The company bills customers in yen for cloud services and provides the Cloud Automator application. Cloud Automator, which Serverworks developed and offers in a software as a service (SaaS) format, automates backups, optimizes cloud service usage, and simplifies operations management. Using Cloud Automator helps customers automate operations that previously depended on individuals, makes operations more efficient, and reduces the usage volume of cloud services (helping customers lower costs). Serverworks profits from the spread between the wholesale and customer prices of AWS services. Labor costs are minimal. Revenue in this segment is generally linked with how much customers use AWS. Shared Research understands GPM to be around 15%.
In MSP services, the company monitors the performance of systems configured on AWS, conducts failure monitoring, and offers operation services, such as a recovery service in the event of failure. Through standardization, the company is working to reduce the cost of its operation services. As with Resale services, growth in MSP services tends to track revenue growth, which is linked with the volume of AWS services used. We understand GPM to be 25–30%. In FY02/20, the company began working to boost average usage per customer by providing more extensive services to customers with substantial leeway to expand use.
In FY02/21, cost of revenue was JPY6.8mn, with the cost of revenue to sales ratio at 84.7%. This amount centered on payments to AWS of JPY5.6bn (82.0% of cost of revenue). Most of this cost was allocated to Resale services. The cost of engineers (labor costs) amounted to JPY684mn (10.1% of cost of revenue). Most of labor costs were associated with Cloud Integration and MSP services. SG&A expenses were JPY805mn (10.0% of revenue), mainly personnel expenses for the sales and administrative departments and outsourcing expenses.
The market for AWS and other cloud services is expanding. Around the world, these services are growing as customers strive to ensure the security of managed data, link billing systems with usage volume (no up-front spending, pay-as-you-go), use IT engineers effectively (outsourcing maintenance costs), and strengthen business continuity planning (BCP). Growing economies of scale and technological progress are also pushing down unit prices, contributing to customer growth.
Amazon’s disclosure documents indicate that AWS sales grew by 9.8x from USD4.6bn in 2014 to USD45.4bn in 2020. Amazon has continued to lower fees, invest aggressively in servers to raise customer convenience, cultivate its own technologies, and add leading-edge technologies to its service menu. According to a study by Synergy Research Group, in 2020, AWS accounted for a global market share of more than 30%, compared with around 20% for Microsoft Corporation (NASDAQ: MSFT), less than 10% for Alphabet Inc. (NASDAQ: GOOG), and around 5% for Alibaba (NYSE: BABA). Certified AWS partners number around 20,000 companies around the world. Of this figure, Serverworks was one of only 128 companies (10 in Japan) as of May 2021 at the highest partner level: Premier Consulting Partner.
In September 2021, the company began providing Google Cloud Platform (GCP), a cloud service that stands comparison with AWS. The company provides GCP through its consolidated subsidiary G-gen Co., Ltd. (included in consolidated accounting from 2H FY02/22). G-gen is a joint venture between the company and South Korea-based Bespin Global, Inc., with the company holding a 50% stake. Bespin Global, a certified Google Cloud Premier Partner, operates a GCP business in South Korea. G-gen can also provide GCP services as a Google Cloud Premier Partner and can offer customers special discounts (5% discount from the lowest domestic market price) and other benefits. As cloud services become more diverse, some of the company's customers are beginning to utilize GCP in the SaaS/PaaS format. In collaboration with the company (parent), G-gen will work to build cloud environments supported by both AWS and GCP. By offering GCP, the company aims to cross-sell to its existing customers and expand its customer base (for instance, penetrate the entertainment industry with its service offerings).
Trends and outlook
FY02/21 results: For FY02/21, Serverworks reported full-year revenue of JPY8.0bn (+17.9% YoY), operating profit of JPY420mn (+0.5% YoY), recurring profit of JPY411mn (-2.5 YoY), and net income of JPY482mn (+44.7% YoY). The year started off on a weak note as in 1H, the fallout from the pandemic weighed heavily on Japanese businesses, prompting many to cut back on IT-related spending, which for Serverworks meant postponements and cancellations of some of the cloud integration projects it had lined up. The operating environment turned for the better around August 2020, with Serverworks reporting not only increasing numbers of customer companies and projects but higher contract prices as well. At its mainstay Resale services, rising use of AWS by existing customers and additions of new customers drove growth in revenue and allowed the company to eke out a modest increase in operating profit despite increases in operating expenses (centered on labor costs and personnel expenses). At the net income level, the company benefited from an extraordinary gain of JPY246mn booked on the sale of securities holdings. As of end-FY02/21, the company reported a total of 157 employees.
FY02/22 forecast: For FY02/22, the company projects full-year consolidated revenue of JPY10.2bn (+27.2% YoY), operating profit of JPY420mn (JPY420mn in FY02/21), recurring profit of JPY443mn (+7.9% YoY), net income of JPY319mn (-33.9% YoY), and EPS of JPY41.79. The company shifted to consolidated reporting from Q2 FY02/22. Year-on-year comparisons are versus nonconsolidated figures from FY02/21. The company said the growing numbers of companies making greater use of ICT to boost operating efficiency bodes well for the continued growth of the public cloud services market. Within this growing market, it intends to make use of its competitive edge in related technologies in its offering of customer-oriented cloud solution services while constantly working to acquire and apply new technologies so as to provide the highest degree of customer satisfaction and continue to grow revenue.
The company has three qualitative growth strategies. The first strategy is to cultivate new customers by communicating the advantages of adopting AWS, enhancing name recognition, and ensuring rapid customer response. While promoting the ongoing use of AWS by new customers, the second strategy calls for expanding AWS usage volume by existing customers. To do so, the company intends to communicate the benefits of expanding the use of AWS and information on new AWS services and functions, encouraging existing customers to transition multiple systems to AWS rather than just one. Serverworks’ third growth strategy is to capture regular demand for monitoring and maintenance of systems configured on AWS, including performance monitoring, failure monitoring, recovery services in the event of failure, and operation services. In addition, the company intends to assign dedicated teams to perform everything from system configuration to operations and maintenance at specific large customers (large customers that have the leeway to expand AWS usage volume). Serverworks also plans to increase its number of personnel, mainly engineers, by 20 to 30 per year.
Strengths and weaknesses
Strengths:
1) The company has a high level of expertise as an AWS integrator.
2) Around 80% of revenue comes from Resale services, a secular growth area.
3) Serverworks leverages its swift customer response to cultivate new customers.
Weaknesses:
1) Because of its specialization as an AWS integration provider, the company is sometimes unable to meet customer needs for other services.
2) Engineers and salespeople also service existing customers, so new customer acquisition is a bottleneck even though the company is increasing personnel numbers.
3) Serverworks competes against large domestic system integrators with higher brand recognition, so is sometimes at a competitive disadvantage when cultivating new customers.
(Refer to the “Strengths and weaknesses” section for more detail.)
Key financial data
Note: Figures may differ from company materials due to differences in rounding methods.
Note: The figures above have been retroactively adjusted to reflect a two-for-one split on common stock on September 1, 2019.
Recent updates
Consolidated earnings forecast accompanying a shift to consolidated reporting / Revision to nonconsolidated earnings forecast
Serverworks Co., Ltd. announced a consolidated earnings forecast accompanying a shift to consolidated reporting, and a revised nonconsolidated earnings forecast.
Announcement of consolidated earnings forecast and forecast revisions
The company shifted from nonconsolidated (parent only) reporting to consolidated reporting from Q2 FY02/22. It newly disclosed a consolidated earnings forecast accompanying the shift. The company also revised up its nonconsolidated FY02/22 earnings forecast announced on April 14, 2021.
Consolidated FY02/22 company earnings forecast (out October 15, 2021)
*Net income attributable to owners of the parent
Nonconsolidated FY02/22 company earnings forecast (out October 15, 2021; previous forecast out April 14, 2021)
*Net income attributable to owners of the parent
Reason for revision
The company moved to consolidated reporting due to making G-gen Co., Ltd. a subsidiary. The full-year consolidated earnings forecast includes results from G-gen and equity-method affiliate Sky365 Co., Ltd. According to the company, G-gen (newly consolidated) was established recently, and is forecast to incur upfront costs such as labor, personnel, and other expenses to generate sales.
The revision to the nonconsolidated company earnings forecast reflects the positive impact of foreign exchange movements (higher yen-denominated prices accompanying yen weakness) and an improved order environment accompanying the recovery from the impact of the COVID-19 pandemic. The company said it expected operating profit, recurring profit, and net income to come in above its previous forecast announced on April 14.
Conclusion of joint-venture agreement with Bepsin Global
Serverworks Co., Ltd. announced the conclusion of a joint-venture agreement with Bepsin Global Inc.
Earlier, on July 14, 2021, the company released a notice indicating its formation of an agreement in principle with Bespin Global Inc. regarding a business alliance and the establishment of a subsidiary. In connection with the circumstances covered by this notice, the company’s Board of Directors resolved during a meeting held on August 13, 2021 to form a joint-venture agreement with Bespin Global and convert subsidiary G-gen Co., Ltd. into a joint company.
Under this joint-venture agreement, the company will allot new shares to Bespin Global Inc.’s corporate group, bringing the stake of each company in G-gen Co., Ltd. (previously wholly owned by the company) to 50%.
Overview of joint venture
The company has not determined whether this joint venture will be included among its consolidated subsidiaries. It the joint venture is classified as an equity-method affiliate, the company will disclose all relevant information.
The company anticipates that any impact from this joint-venture agreement on financial results for FY02/22 will be negligible and maintains that it will promptly release all data warranting disclosure.
Trends and outlook
Quarterly trends and results
Note: Figures may differ from company materials due to differences in rounding methods.
Note: Figures may differ from company materials due to differences in rounding methods.
Note: Figures collected by Serverworks. Amounts for recurring-revenue business are totals for the Resale and MSP businesses. One-time revenue business figures are revenue from the Cloud Integration business.
1H FY02/22 results (out October 15, 2021)
Overview
The company shifted from nonconsolidated (parent only) to consolidated reporting from Q2 FY02/22. Year-on-year growth rates following are simple comparisons versus nonconsolidated figures from FY02/21.
Key points
1H results
Revenue amounted to JPY5.1bn (+34.7% YoY), rising YoY in all service categories (details below). According to the company, the domestic IT service market surrounding the company is seeing a rapid expansion of cloud-related demand, including demand for establishing teleworking environments that can support new workstyles during and after the COVID-19 pandemic. The group has been expanding its business as a system integrator specializing in cloud-based services centered on AWS.
As of end-Q1 FY02/22, the company had introduced AWS, a cloud service it specializes in, at more than 900 companies and handled over 10,000 projects (according to the company materials, it had introduced AWS at over 930 companies and handled over 11,000 projects as of end-July 2021).
Operating profit was JPY365mn (+129.2% YoY), rising thanks to the increase in revenue in spite of an increase in operating expenses driven primarily by labor and personnel expenses (expenses by service category are undisclosed). The company reported non-operating income of JPY5mn (including JPY5mn in equity in earnings of affiliates), JPY7mn in non-operating expenses (including JPY5mn in foreign exchange losses), and recurring profit of JPY363mn (+148.8% YoY). The company also reported JPY10mn in special executive bonuses as extraordinary loss.
Progress versus the company's consolidated full-year forecast for FY02/22
At end-1H FY02/22, revenue had reached 49.8% of the full-year FY02/22 target, while operating profit was at 86.8%, recurring profit 81.9%, and net income 77.3%. This progress outpaced that reported at end-1H FY02/21, when revenue reached 47.0% of full-year (nonconsolidated) results, operating profit 37.9%, recurring profit 35.5%, and net income 58.4%.
Costs
Cost of revenue (consolidated) in 1H FY02/22 came to JPY4.2bn (+29.9% or JPY973mn versus nonconsolidated 1H FY02/21 figures), and SG&A expenses (consolidated) were JPY500mn (+36.0% or JPY132mn).
The increase in cost of revenue was primarily driven by YoY increases of JPY980mn in purchase of goods associated with growth in Resale revenue (details below) and of JPY7mn in labor costs. Meanwhile, manufacturing expenses fell JPY14mn YoY. Contributing to this decrease were YoY declines of JPY9mn in work in progress, JPY9mn in recruitment expenses, and JPY3mn in other manufacturing expenses, which offset YoY increases of JPY5mn in communication expenses and JPY2mn in outsourcing expenses.
SG&A expenses rose due to YoY increases of JPY69mn in personnel expenses, JPY22mn in advertising expenses, JPY15mn in communication expenses, JPY7mn in outsourcing expenses, JPY4mn in rent, and JPY15mn in other SG&A expenses.
At end-August 2021, the company had 175 employees, including temporary employees and executive officers, an increase of 18 compared to end-FY02/21. There were 96 employees (up four since end-FY02/21) in the manufacturing department, 72 (up 15 compared to end-FY02/21) in the sales department, and seven executive officers (down one compared to end-FY02/21). The company plans to hire 60 employees in FY02/22, up from its initial plan of 33. At end-1H, the company had reached 31.7% of this target (increase of 19 in the manufacturing and sales departments ÷ 60 planned hires).
Results by service
Cloud Integration
In Q2 FY02/22, Cloud Integration revenue was JPY142mn (+106.0% YoY). Customer acquisition and orders received rose steadily along with recovery in cloud-related demand. Corporate customers rose to 66 companies (up from 50 in Q2 FY02/21), and average revenue per project rose 55.9% YoY, from JPY773,000 to JPY1,205,000. Project count was 117 (up from 88 in Q2 FY02/21).
Resale
In Q2 FY02/22, the company’s Resale services reported revenue of JPY2.2bn, up 39.2% YoY. The solid revenue gains were driven by a combination of a steady flow of orders from existing customers, a growing number of new customers, and increasing use of AWS by large customers leading to rising ARPU (AWS usage fees per customer company). Additionally, the company reported strong revenue from (primarily security-related) services, the sale of software licenses, and original services.
In Q2 FY02/22, depreciation of the Japanese yen contributed to the increase in revenue. According to the company, the exchange rate was JPY110.61/USD in June 2021 (JPY107.74/USD in June 2020), JPY109.52/USD in July 2021 (JPY104.61/USD in July 2020), and JPY109.9/USD in August 2021 (JPY105.39/USD in August 2020).
Q2 ARPU (excluding Reserved Instance and Savings Plans) of USD13,511 was up 11.1% YoY. The company reported a total of 1,728 individual AWS accounts (+35.7% YoY; this figure includes multiple accounts at the same customer company).
Note: Figures may differ from company materials due to differences in rounding methods.
Note: ARPU (JPY) is calculated by dividing AWS usage fees (including Reserved Instance and Savings Plans) by the number of corporate customers; ARPU (USD) excludes Reserved Instance and Savings Plans.
MSP (Managed Service Provider)
In Q2 FY02/22, the company’s MSP business reported revenue of JPY543mn, up 16.9% YoY. The solid revenue gains were driven by a combination of steady flow of orders from existing customers and efforts to capture new demand by strengthening Site Reliability Engineering (SRE; aimed at improving performance, availability, extensibility, and security to ensure the reliability of IT systems) initiatives. In particular, the company put together dedicated teams to handle specific large customers and projects to capture new demand.
SRE
SRE is a system where an engineer who has supported a specific major customer to adopt cloud computing through cloud integration remains in charge as an MSP until the system is in stable operation. The company decided to integrate SRE-based cloud integration revenue into MSP service revenue in FY02/20.
Reference: Q2 FY02/22 revenue in the one-time and recurring revenue businesses
In Q2 FY02/22, one-time revenue business accounted for 6.0% of overall revenue, up 2.0pp YoY from 4.0%. Meanwhile, recurring revenue business accounted for 94.0%.
Note: Includes engineers who hold multiple certifications
Company full-year forecast for FY02/22 (revised October 15, 2021)
Note: Figures may differ from company materials due to differences in rounding methods.
Summary
The company shifted from nonconsolidated (parent only) to consolidated reporting from Q2 FY02/22. It newly disclosed a consolidated earnings forecast accompanying the shift. The company also revised up its nonconsolidated FY02/22 earnings forecast from figures announced on April 14, 2021.
Consolidated FY02/22 company earnings forecast (out October 15, 2021)
*Net income attributable to owners of the parent
Nonconsolidated FY02/22 company earnings forecast (out October 15, 2021; previous forecast out April 14, 2021)
*Net income attributable to owners of the parent
Reason for revision
The company moved to consolidated reporting due to making G-gen Co., Ltd. a subsidiary. The full-year consolidated earnings forecast includes results from G-gen and equity-method affiliate Sky365 Co., Ltd. According to the company, G-gen (newly consolidated) was established recently, and is forecast to incur upfront costs such as labor, personnel, and other expenses to generate sales.
The revision to the nonconsolidated company earnings forecast reflects the positive impact of foreign exchange movements (higher yen-denominated prices accompanying yen weakness) and an improved order environment accompanying the recovery from the impact of the COVID-19 pandemic. The company said it expected operating profit, recurring profit, and net income to come in above its previous forecast announced on April 14.
Shared Research plans to update details after interviews with the company.
The following commentary is as of August 3, 2021 (based on interviews with the company following the Q1 FY02/22 results announcement).
Key points
For FY02/22, Serverworks forecasts consolidated revenue of JPY10.212bn (+27.2% YoY [note FY02/21 results were for the parent]) and parent revenue of JPY10.197bn (+27.0% YoY).
While not providing forecasts by service, the company initially expected Cloud Integration revenue to expand in line with the hiring of additional engineers. The company expects to hire 60 individuals (revised up from the initial target of 33), more than the 30 it hired in FY02/21. The company is receiving inbound cloud integration orders, and expects demand to remain strong in 2H as well. It does not expect its customers to postpone investment in 2H FY02/22 as they did in 2H FY02/21.
For the Resale service, the company had assumed a forex rate of JPY103/USD for FY02/22, but the yen hovered around JPY107/USD through 2H, depreciated from JPY106/USD in FY02/21 (Shared Research estimate based on market rates). As a result, revenue from the Resale service has exceeded initial expectations, and the company has factored this in the full-year forecast. It anticipates sustained YoY growth in the MSP service thanks to an ongoing expansion in usage by existing customers and SRE contributing to stable earnings from larger customers.
The company forecasts operating profit of JPY489mn (+16.5% YoY) for the parent and JPY420mn (flat YoY, but parent results in FY02/21) on a consolidated basis. OPM is forecast at 4.1% on a consolidated basis and 4.8% for the parent, down from 5.2% in FY02/21. The forecast for consolidated operating profit is lower than that for parent operating profit due to an anticipated operating loss of about JPY70mn resulting from expenses accompanying increased personnel at consolidated subsidiary G-gen. The company sees the personnel increase as a necessary investment to develop the GCP business. It expects revenue and earnings to expand from FY02/23 onward supported by the increase in personnel.
At the parent, the company intends to hire more employees in FY02/22 than it did in FY02/21 (revised up the initial target as mentioned above), and accordingly expects a rise in personnel expenses( under cost of revenue, as well as under SG&A expenses). The company expects to offset the rise in expenses with revenue coming in above the initial forecast.
In FY02/21, due to delays in investments by customers, the number of projects handled in the Cloud Integration service was 88 (-18.5% YoY) in Q2 and 99 (-48% YoY) in Q3. As a result, the company refrained from hiring new employees, especially engineers, during the fiscal year.
Medium-term management plan
The company discloses no medium-term management plan with specific numeric targets. During an interview with Shared Research in April 2020, management stated that it aimed to achieved revenue of JPY10.0bn and an OPM of 10% by FY02/22.
On April 14, 2021, the company released FY02/22 forecasts calling for revenue of JPY9.3bn, operating profit of JPY446mn, and an OPM of 4.8%. This represents downward revisions from previous figures. The revised forecast factors in reduced Cloud Integration revenue in FY02/21due to the impact from the COVID-19 pandemic, which management did not previously expect. However, the company indicated that there will be no change to the key qualitative growth strategies (see below for details) it is implementing to achieve OPM of 10%.
The company has three qualitative growth strategies. The first strategy is to cultivate new customers by communicating the advantages of adopting AWS, enhancing name recognition, and ensuring rapid customer response. While promoting the ongoing use of AWS by new customers, the second strategy calls for expanding AWS usage volume by existing customers. To do so, the company intends to communicate the benefits of expanding the use of AWS and information on new AWS services and functions, encouraging existing customers to transition multiple systems to AWS rather than just one. Serverworks’ third growth strategy is to capture regular demand for monitoring and maintenance of systems configured on AWS, including performance monitoring, failure monitoring, recovery services in the event of failure, and operation services. In addition, the company intends to assign dedicated teams to perform everything from system configuration to operations and maintenance at specific large customers (large customers that have the leeway to expand AWS usage volume).
Initiatives targeting new customers and new projects
Companies are becoming more familiar with cloud services. According to the Ministry of Internal Affairs and Communications’ “Communications Usage Trend Survey” (time of survey: August 31, 2020), 39.4% of participating domestic companies indicated that they used cloud services on a companywide basis (versus 22.8% five years earlier in 2015). Meanwhile, 29.3% of responding domestic companies stated that they use cloud services at some business locations or in some departments (versus 21.7% in 2015). Therefore, 68.7% of responding domestic companies indicated that they used cloud services either on either a companywide or partial basis (versus 44.6% in 2015). The company aims to raise awareness regarding the merits of implementing cloud services and AWS (no up-front investment required, a usage-based pricing system, heightened safety, etc.) and acquire new customers and projects.
To attract customers faster than its competitors, Serverworks plans to highlight its standing as a Premier Consulting Partner for AWS, its extensive expertise as a dedicated AWS integrator, and its ability to respond quickly. The company says AWS has some 20,000 consulting partners around the world. These companies are ranked into four levels: Registered, Select, Advanced, and Premier. Out of the 20,000 companies, only 128 (less than 1%) are Premier Consulting Partners. Serverworks is one of only 10 Japanese companies with the Premier ranking (as of May 2021).
Increasing use of AWS
Over time, many of Serverworks’ customers gradually increase the usage volume of AWS services. AWS’ unit usage charges have been trending downward. (AWS benefits from economies of scale when purchasing equipment, and technological advances help bring costs down. It passes these savings on to users.) However, because customer usage volume has been growing faster than unit prices have fallen, average revenue per user (ARPU) has been rising.
Increased customer usage volume leads to higher revenue of Resale and MSP services. To boost usage volume, the company will work to increase the amount of customer data it manages and promote the shift from on-premise environments (companies own equipment and software and perform operations and maintenance themselves) to the cloud.
Source: Shared Research based on company data
Support for specific large customers
Since FY02/20, the company has been setting up a Site Reliability Engineering (SRE) system of dedicated teams to handle the needs of specific large customers that cannot be addressed through standardized Managed Service Provider (MSP) services. These teams will target companies that still handle large volumes of data on-site, companies that anticipate increases in the volume of data they manage, and companies that intend to proactively use new AWS services. As of end-FY02/20, the company had assigned around 40 engineers to these dedicated teams, double the number at end-FY02/19. The company plans to use these teams to get a clear picture of current conditions at large potential customers, ascertain potential needs, and boost usage volume by offering attentive services spanning system configuration to operation and maintenance.
Business
Overview
Serverworks is a system integrator specializing in Amazon Web Services (AWS), a cloud service provided by Amazon.com, Inc. (NASDAQ: AMZN). Serverworks helps Japanese companies configure cloud systems to use AWS and provides operational support. In the past, many companies used on-premise information systems (owning equipment and software and performing operations and maintenance themselves). In line with the change in trend from “owning to using”, nowadays more companies are transitioning to cloud services. (The service provider invests in servers, network equipment, and software and charges customers according to how much they use.)
Several factors are behind the growth in cloud computing: 1) it ensures the security of managed data, 2) fees are charged according to usage volume (no upfront spending, pay-as-you-go basis), 3) it facilitates the effective use of IT engineers (externalizing maintenance costs), 4) it strengthens business continuity planning (BCP), 5) economies of scale and technological advances are passed on in the form of lower unit rates, and 6) service menus feature the most advanced technologies. Having on-premise information systems can be beneficial, such as when the systems are highly customized. However, the overarching trend is a rapid progression toward cloud-based systems.
The company is a system integrator dedicated to AWS, the world’s largest cloud service provider (with a global market share of more than 30%, according to a study by the Synergy Research Group). Serverworks is certified as a Premier Consulting Partner of AWS. This designation is accorded to less than 1% of some 20,000 AWS partners worldwide (128 companies globally, with 10 in Japan, as of May 2021). Serverworks is a dedicated AWS integrator, whereas other Premier Consulting Partners in Japan operate rental server businesses, handle cloud services other than AWS, or handle system development. Serverworks is boosting its revenue through highly specialized expertise and the ability to respond quickly.
In FY02/21, revenue was JPY8.0bn. The cloud business represents the company’s only segment. Among the company’s services, Cloud Integration accounted for JPY425mn (5.3% of the total), Resale for JPY6.6bn (82.5%), Managed Service Provider (MSP) for JPY961mn (12.0%), and other services for JPY16mn (0.2%). The company does not provide operating or other profit figures.
Cloud Integration
Overview
Cloud Integration is a system integration service that acts as a gateway, introducing companies to the use of AWS. Serverworks helps customers transition their core business systems from on-premise (companies own servers, PCs, other equipment, and software that they manage and operate themselves) to cloud environments, assisting in the design and configuration of the cloud infrastructure.
The “lift-and-shift” migration approach is commonly used for moving systems from on-premise environments to the cloud. Applications are effectively “lifted” from their existing environments and “shifted” as-is to the cloud. Systems are reconfigured and optimized for the cloud in the interest of streamlining operating expenses and raising efficiency. After assessing their needs, Serverworks often recommends a lift-and-shift approach to customers as an effective way to make use of cloud computing (including its effectiveness in holding down costs).
The company’s Cloud Integration services extend beyond configuring cloud infrastructure. The company also provides an upstream consulting service, helping customers to set business targets (KPIs) for cloud-related performance, formulating plans for migration to the cloud, and optimizing overall IT infrastructure as part of the introduction to cloud computing.
Find out the difficulty level and area of operation to be impacted by the migration, and decide on priorities in the migration flow
(Choose type—the whole operating system, data migration through replication, tool-based migration—considering characteristics of the targeted system, recovery point objective [RPO] and recovery time objective [RTO])
(Connect with application vendors in the designing stage to create room to seek their cooperation if it becomes necessary in the migration flow)
If data and/or virtual server have already been migrated, start the switch over
Earnings and cost structures
Cloud Integration is relatively labor-intensive. The service price is generally a product of 1) the number of engineers supporting the migration, 2) the number of hours worked, 3) the hourly rate for engineers, and 4) margin. The process involves creating a migration plan that reflects the customers’ needs, drafting a post-migration operational plan, and designing the infrastructure and network. The keys to providing these services successfully are efficiency (labor productivity) and having sufficient engineers in place.
Serverworks is working to boost labor productivity in three ways: by expanding training, recommending that engineers gain AWS-designated certifications, and sharing case studies of previous projects. As of end-FY02/20, the company employed a little under 100 engineers, planning to increase this number by 20 to 30 per year (it also employs around 30 external engineers on an as-needed basis.) Most of the company’s engineers are involved in Cloud Integration, but they also handle MSP services (mostly maintenance) and development of internal technologies (Cloud Automator version upgrades). The company does not disclose GPM by service category. In the Cloud Integration category, engineers’ labor costs are the main cost of revenue. We understand that GPM for Cloud Integration services is around 25–30%, depending on technical complexity.
In FY02/21, the company handled 457 Cloud Integration projects (+6.0% YoY). The number of projects had been rising each year, from 315 in FY02/17 (+18.0% YoY) to 462 in FY02/18 (+46.7% YoY), to 504 in FY02/19 (+9.0% YoY), but declined to 431 in FY02/21. Explaining this decrease, the company says in FY02/20 it shifted resources to MSP (SRE: see below for additional details) to provide more attentive service to large customers with the leeway to expand usage volume and in an effort to cultivate potential demand.
Note: Figures may differ from company materials due to differences in rounding methods.
The company views Cloud Integration as a gateway service for customers moving on to Resale and MSP services, which are recurring-revenue business. Many of its Resale and MSP customers started out with Serverworks’ cloud migration service and have supported the company’s continued growth. (Now, the company is working to ensure that all Cloud Integration projects follow on to Resale or MSP.)
Serverworks’ selling points for its Cloud Integration service are threefold: being a Premier Consulting Partner in the Amazon Partner Network (APM), a high level of expertise as a dedicated AWS integrator, and the ability to respond swiftly.
A Premier Consulting Partner
Amazon commenced a business similar to what became the prototype for the current AWS service (such as pay-as-you-go server rental) in 2006. Serverworks was an early adopter of Amazon’s service, which it began using in 2007. The company’s user experience kept improving, leading President Ryo Oishi to believe “AWS will revolutionize the IT industry” and prompting Serverworks to launch an AWS introduction service (now called Cloud Integration). In 2009, it narrowed down its offerings, accepting project orders only for AWS and concentrating management resources there.
Certified as an AWS Solution Provider in 2011, that same year Serverworks signed a Value-Added Provider agreement with AWS and launched the Resale business full-scale. The company then completed numerous cloud migration projects, helping companies migrate to the cloud. As an AWS consulting partner, it gained a good understanding of AWS’s services and solid technologies. Giving high marks to its support system, in 2014 AWS certified Serverworks as a Premier Consulting Partner (a certification level it has sustained every year since.) Only two companies in Japan became Premier Consulting Partners prior to Serverworks: Iret (now a subsidiary of KDDI [TSE1: 9433]) and Nomura Research Institute (TSE1: 4307). Both companies received their certifications in 2013.
AWS has some 20,000 consulting partners around the world. These companies are ranked into four levels: Registered, Select, Advanced, and Premier. Out of the 20,000 companies, only 128 (less than 1%) are Premier Consulting Partners. Serverworks is one of only 10 Japanese companies with the Premier ranking (as of May 2021).
Companies that have operated on-premise information systems themselves to date typically select an integrator with strong technological capabilities to configure systems for migrating to the cloud. In technologically advanced industries, potential customers may prefer to select integrators on the basis of cost. However, as AWS is a continually evolving field, technological capability tends to be the overriding factor. Its top-level ranking among AWS’s consulting partners helps Serverworks stand out to potential customers. AWS has also created the AWS Partner Network (APN) as an organization to support the business growth and expansion of customer companies. AWS’s individual consulting partners use this framework to leverage their respective strengths. In this context, Serverworks has historically emphasized enterprise IT systems (administrative and backbone systems) and has built up an extensive track record of helping companies transition these to AWS. Because of this background, the company is sometimes introduced when companies are looking for a partner to help them move enterprise IT systems to AWS.
Expertise as an integrator dedicated to AWS
Serverworks is a dedicated AWS integrator. In contrast, most other Japanese Premier Consulting Partners handle multiple businesses, such as having their own data centers, developing on-premise business, developing customized application software, or selling services that compete with AWS, such as Microsoft Azure or Google Cloud Platform.
As a dedicated AWS integrator, Serverworks benefits from fast access to new AWS information, which it can quickly share internally and use to enhance customer services. AWS is still evolving rapidly and continues to expand its service menu. Being a dedicated AWS integrator means Serverworks does not offer other companies’ services. However, the company believes the benefits of specialization outweigh this disadvantage, because AWS’s standing as a frontrunner in the public cloud makes it the top choice among customers. The company says it often receives user feedback praising its own high degree of AWS expertise among salespeople as well as engineers.
Additional launch of Google Cloud Platform services
The company currently specializes in AWS but has decided to enter the Google Cloud Platform (GCP) business in Japan (announced on July 14, 2021). The business will be operated through a joint venture established with South Korea-based Bespin Global Inc. (date of establishment undecided; Serverworks’ investment ratio will be 50%). This joint venture will perform GCP resale in Japan, provide MSP and cloud integration services for GCP, and market SaaS and third-party solutions.
According to the company, it will not change its core business model, under which it specializes in providing AWS-related services. However, the company also recognized customer needs for the simultaneous use of AWS and GCP (multi-cloud). It intends to maintain and expand its customer base by providing GCP services. According to the company’s observations, utilization of GCP has become particularly common among companies providing entertainment services.
Bespin Global is a Google Cloud Premier Partner and operates its GCP business on a global scale.
Rapid response: Narrowing the field of expertise and cultivating a culture that values swift action
Serverworks prides itself on responding quickly to technical questions, and says customer feedback underscores this emphasis. The company believes its status as a dedicated AWS integrator makes it easier to share specialized expertise throughout the company, including the sales team, to respond quickly to customer issues, questions, or uncertainties.
Rather than being due to its specialist focus, however, the company explains that responding quickly to customers is a deliberately cultivated aspect of its corporate culture. Speed is a central element of the company’s conduct guidelines, which emphasize 1) ownership (a sense of responsibility toward tasks and issues to be addressed right away), 2) speed, 3) results, and 4) customer perspective. The company notes that many of the tasks it undertakes have no single correct approach, and the information needed to make accurate decisions is often lacking. For this reason, it recommends making decisions quickly based on the experience and expertise available rather than wasting time in deliberation and procrastinating on decision-making. Noting that time is important to customers as well, the company underscores the need to act quickly and swiftly provide feedback to customers. The company has in place a reward system to publicly recognize notable employee successes achieved based on the conduct guidelines. This system emphasizes the importance of speed and helps foster the corporate culture.
Resale
Overview
The company has provided AWS Resale services since July 2011, when it signed a value-added reseller (VAR) agreement with Amazon Web Services LLC (now Amazon Web Services, Inc.). To meet customers’ needs, Serverworks also provides Cloud Automator (a service it developed to automate AWS operations) and security software offered by companies other than Amazon. The company says its customers give high marks for Cloud Automator, which it bundles together free of charge along with agreements for pieCe, the AWS Resale service.
Earnings and cost structures
Purchases services at wholesale prices, sells them at retail prices
AWS fees are assessed according to the volume of service used, and AWS publicizes customer prices (pricing clarity is a point of appeal). Serverworks’ profits come from the difference between the price the company pays AWS (the wholesale price) and the customer price. The wholesale price is undisclosed, in accordance with a non-disclosure agreement.
The VAR agreement calls on Serverworks to add value to the AWS services it sells to customers. Acting as a billing agent is one of the first services provided. When customers enter agreements with Amazon directly, they must pay in US dollars using a designated credit card. The company’s billing agency service allows customers to 1) save money and time on hardware procurement and system management (one characteristics of public cloud services), 2) receive invoices and pay for AWS services in yen, in exchange for a commission paid to Serverworks, and 3) pay by bank transfer, which is more common in Japan. The company says it minimizes short-term exchange rate risks by billing customers based on exchange settlement rates. In the medium term, however, significant JPY/USD exchange rate fluctuations can affect gross profit on Resale services (although GPM is largely unaffected).
Cloud Automator
In June 2016, the company began offering pieCe, a package that added Cloud Automator (a Serverworks-developed AWS operations automation service) to the AWS payment services the company already provided. Cloud Automator links AWS and Serverworks’ systems via an application program interface (API), allowing customers to use the web application directly, visually, and without any programming. This Software as a Service (SaaS) is designed to augment operational quality by helping with the automation and optimization of cloud operations.
AWS services are generally billed on a pay-as-you-go basis, according to time used and without any initial costs. (Exceptions include Reserved Instance and Savings Plans, which offer substantial discounts when server specs and usage times are reserved in advance.) Cloud Automator automates certain key operations for using AWS: 1) the backups that are essential when using AWS, 2) starting/stopping operations of Amazon Elastic Compute Cloud (EC2; cloud-based, resizable virtual servers) and Amazon Relational Database Service (RDS), and 3) monitoring and reporting to ensure the AWS environment is operating securely.
These automation functions help curtail AWS usage time and volume and lower costs (sometimes by as much as one-third or more) by creating a job (a unit of work executed on AWS) that automatically shuts down part of the EC2 after routine operations are complete and launches it again prior to the start of operations. Server administrators can be spared the routine tasks of switching servers on and off and checking usage status, freeing up their time for more strategic work. Serverworks is called a value-added reseller because it also provides AWS customers with convenient functions such as this.
Sales of third-party software
In the Resale services segment, the company also sells third-party software services, acting as a distributor. These services mainly include providing customers who are highly sensitive about security with services to help prevent information leaks and software services to centrally manage ID access. Sales of third-party software services account for less than 10% of revenue in the Resale segment.
Cost structure and business model
Shared Research understands that most Resale service costs correspond to server usage payments to Amazon (with labor costs accounting for a small percentage). Payments to Amazon account for most of purchases during the year. In FY02/21, Resale revenue was JPY6.6bn, and purchases during the year amounted to JPY5.6bn, leading to the estimated Resale GPM of around 15%.
KPIs
Revenue breaks down into the number of customers and average revenue per user (ARPU). The number of customers is calculated as the number of customers at previous year-end plus the number of new customers during the year minus the number of customer defections. The number of new customers corresponds closely to the number of new Cloud Integration customers. Some customers (such as global companies) enter MSP agreements without becoming Resale customers, but most new Cloud Integration customers are Resale customers. The company says annual customer churn is extremely low.
ARPU depends on how much of AWS services customers use. Although Serverworks helps customers lower costs by providing Cloud Automator, ARPU (USD basis, excluding Reserved Instance and Savings Plans) per customer is trending upward, for three key reasons. First, the company continues to engage in projects that help customers migrate from on-premise systems to the cloud. (Customers typically do not migrate all of their systems to AWS from the very beginning.) Second, the number of AWS services is gradually growing (such as Amazon Machine Learning and Amazon WorkSpaces). Third, the amount of data companies manage is growing, in line with the perceived value of this data.
Managed Service Provider (MSP)
Overview
In MSP services, Serverworks handles the monitoring, operation, and maintenance of virtual servers and networks on behalf of AWS customers. AWS essentially corresponds to Infrastructure as a Service (IaaS), i.e., customers basically have to operate virtual servers (EC2 instances) and storage (RDS) themselves. Providing MSP services leverages Serverworks’ accumulated expertise in AWS use and operations, reducing the burden on customers.
Earnings and cost structures
Most of the service fees for MSP derive from the number of virtual servers (EC2 instances). Fees per EC2 instance is around JPY20,000 per month. MSP revenue rises in tandem with the increase in the number of servers (EC2 instances) customers use. The company outsources much of these operations to Sky365 Co., Ltd., an affiliate, and outsourcing costs account for around 40% of revenue. Labor costs for Serverworks’ engineers amount to some 30% of revenue. As with Resale services, MSP services feature low churn and an accumulating, recurring-revenue business model.
Within MSP services, the company notes that revenue related to site reliability engineering (SRE) have been increasing since FY02/20. In this category, the company’s engineers provide Cloud Integration services to help specific large customers with cloud migration and the same engineers then go on to oversee MSP. As a result, the company provides and seeks to monetize services that go beyond standard MSP services. The company notes that many of the needs identified for large customers also apply to other customers. As the company addresses these new needs, it can standardize and automate its solutions, leading to new maintenance and service businesses. The company does not disclose SRE revenue and profitability. As the business model is highly labor (engineer)-intensive, Shared Research presumes GPM is similar to that of Cloud Integration, at 20–30%.
Other services
Other services include system configuration and operation services for specific customers using AWS that are not included in Cloud Integration, Resale, or MSP services. In FY02/21, other services generated revenue of JPY16mn (+73.2% YoY).
Customer base
Serverworks targets a broad-ranging customer base, including system developers, providers of operational support services, internet service providers, advertising and event companies, internet media firms, HR service providers, content producers and distributors, wholesalers of electrical equipment and machinery, architecture and construction firms, and banks, securities firms, and insurers. The customer base has grown more diverse in recent years, as more companies have transitioned backbone systems to AWS.
As of FY02/20, the company had no specific customers accounting for more than 10% of revenue. Shared Research assumes major customers include HENNGE (TSE Mothers: 4475), FamilyMart (TSE1: 8028), NTT Communications (a consolidated subsidiary of Nippon Telegraph and Telephone [TSE1: 9432]), TOTO (TSE1: 5332), Yokogawa Electric (TSE1: 6841), Sumitomo Heavy Industries (TSE1: 6302), Walt Disney Japan (unlisted), Yamaha Motor (TSE1: 7272), and Nissan Motor (TSE1: 7201), as these companies accounted for large amounts of advances received/accounts payable as of end-FY02/20 based on Serverworks’ annual securities report for FY02/20.
Market and value chain
Global market for cloud services
Overview
The proliferation of smartphones has led to greater demand for data management, along with the growth of video distribution services (films, YouTube), music distribution services (Spotify), mobile apps, and social media. The data center market has continued to expand accordingly. According to Informa, globally the data center market had a value of USD285.6bn in 2019. In addition to data storage, data centers are central to content distribution and cloud services. As the content and app markets continue to expand, the data center market is growing at around 10% annually.
In recent years, more companies have been shifting their data storage and management from operations on their own premises (companies invest in, own, and manage their own IT equipment) to cloud services (specialized companies maintain networks of servers and other IT equipment, providing them as on-demand services over the internet). This trend corresponds to a shift from “owning to using” in information services. Cloud services offer companies a number of benefits: 1) less need to invest in their own IT equipment, 2) the ability to pay for services on an as-needed basis (rather than guessing how their IT needs might grow in the future and investing accordingly, as well as allowing some leeway), and 3) reducing the cost of personnel to maintain IT equipment (freeing companies from the need to employ their own IT engineers for maintenance and administration, deploying them instead to strategic, growth-oriented fields).
Furthermore, cloud services are becoming more stable, being backed by various types of third-party verification. As the number of companies using such services increases, economies of scale and technological advances drive down usage fees, creating a virtuous cycle for future expansion in cloud services.
Research by Informa indicates that the global market for cloud services had a value of USD251.3bn in 2019 and has continued to grow since then. The COVID-19 pandemic has driven increases in the number of people working or studying from home, further accelerating expansion of the market for cloud services.
Cloud services come in a variety of types, including the Software as a Service (SaaS), Platform as a Service (PaaS), Cloud as a Service (CaaS), and Infrastructure as a Service (IaaS) categories. Different from the conventional practice of selling software packages, SaaS involves the provision of software as a service via a web browser. Examples include Google Workspace (formerly “G Suite”), which is provided by Google, whose parent company is Alphabet Inc. (NASDAQ: GOOG), and Salesforce, provided by Salesforce.com, Inc. (NYSE: CRM).
PaaS refers to the provision of platforms (the hardware and operating systems needed to run application software) as a service over the internet. Major examples of PaaS are Microsoft Azure, provided by Microsoft Corporation (NASDAQ: MSFT), and the Google App Engine. CaaS is a hybrid service, providing other sorts of services via the cloud. IaaS refers to the provision of virtual servers, equipment, and other network infrastructure needed for information systems as a service over the internet. In this category, Amazon Web Service (AWS), a subsidiary of Amazon.com, Inc. (NASDAQ: AMZN) provides Amazon Elastic Compute Cloud (EC2). Another example is Google Compute Engine. Serverworks provides Japanese customers with AWS services, including IaaS offerings such as EC2 (cloud-based virtual servers) and Amazon Simple Storage Service (S3), as well as PaaS and SaaS.
During the PC boom, information systems were based on the client/server model. Companies invested directly or indirectly in servers, which were operated and maintained by internal or outsourced IT engineers. Corporate investments in servers expanded in the 1990s. The shift to cloud computing services commenced in the second half of the 2000s. Cloud service providers concentrated on investments in servers, storage, networks, and applications that could be shared. Cloud services gave users easy access via networks to internal information systems as needed. This trend reduced the need for user companies to invest in servers in anticipation of increasing data volumes. As cloud services became more common, conventional client/server configurations began to be referred to as “on-premise” computing.
Amazon’s cloud services
To some extent, Serverworks has grown through its own efforts to meet customers’ needs by helping to build cloud infrastructure, respond promptly, and offer proprietary software (Cloud Automator), maintenance, and administrative services. To a large extent, the company’s growth is also attributable to the predominance and superiority of the products it sells, namely Amazon’s AWS services.
According to Amazon, in 2019 the AWS business generated sales of USD35.0bn (+36.5% YoY) and operating profit of USD9.2bn (+26.1% YoY). CAGR for sales has been around 50% over the past five years. Although AWS accounts for only 12.5% of Amazon’s total sales, it provides the most operating profit, at 63.3% of the total. AWS is a highly profitable business, with OPM of 26.3%. This level of profitability gives Amazon the leeway to reduce prices to expand market share if it wishes.