Rackspace Hosting, Inc. Touts Frenemies as Profits Jump

Mauli Agrawal, professor of biomedical engineering at the Unviersity of Texas-San Antonio, speaks at a Rackspace event. Credit: Rackspace Hosting.

Rackspace Hosting produced big gains in third-quarter operating income and earnings per share despite posting its lowest year-over-year revenue growth in at least seven quarters.The company -- which released its quarterly report Nov. 9 -- also announced plans to offer $350 million in senior debt to refinance existing obligations, and it could use any remaining proceeds to help fund share repurchases.Here's a closer look at the company's overall Q3 performance:

Metric	Q3 2015 Actuals	Q3 2014 Actuals	YOY Growth
Revenue	$508.9 million	$459.7 million	10.7%
Operating income	$56.5 million	$40.5 million	39.5%
Earnings per share	$0.26	$0.18	44.4%
Cash from operations	$111.4 million	$125.4 million	(11.2%)

Sources: S&P Capital IQand Rackspace Hosting press release.

Commenting on the results, CEO Taylor Rhodes said in a press release:

What went right:Careful capital allocation paid off, with annualized return on capital rising to 15% from 11.8% in last year's third quarter. Average monthly revenue per server improved 2.8% over the same period, to $1,444. Earlier quarters had seen the company struggle to pass $1,420.

What went wrong:For as much as Rhodes talked up partnerships, the cost of revenue still expanded 19.8% year over year -- nearly twice as fast as revenue. Overall operating expenses grew just 7.9% over the same period, mostly because of no or low spending on R&D, sales and marketing, and administrative expenses. That can't last; Rackspace needs material revenue growth to fund investments back into the business.

What's next:Looking ahead, management forecast 2%-3% sequential revenue growth in Q4 after accounting for currency effects. Rackspace reported $472.42 million in revenue and $0.26 a share of profit in last year's fourth quarter, S&P Capital IQ reports.

For the full year, the company is planning for 12% to 14% year-over-year revenue growth on a constant-currency basis. Rackspace generated $1,794.36 million in 2014 revenue, up 16.9% annualized. Per-share earnings grew 26.2%, to $0.77, over the same period.

In the meantime, investors should focus on gross margin and capital expenditures. Benefits from its dealings with Amazon and Microsoft to be the service and support supplier of choice for their cloud platforms should manifest as higher margins. Capex should also moderate now that there's less pressure for Rackspace to assemble an infrastructure that rivals its larger peers.

The article Rackspace Hosting, Inc. Touts Frenemies as Profits Jump originally appeared on Fool.com.

Tim Beyers just keeps racking up the points. He's also a member of theMotley Fool Rule Breakers stock-picking team and the Motley Fool Supernova Odyssey I mission and owned shares of Rackspace Hosting at the time of publication. Check out Tim'sweb homeandportfolio holdingsor connect with him onGoogle+,Tumblr, or Twitter, where he goes by@milehighfool.The Motley Fool owns shares of and recommends AMZN. The Motley Fool owns shares of MSFT. The Motley Fool recommends INTC and RAX. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.