Concentrated AI Markets Will Squeeze Margins But Enable Resilience

Key Takeaways

• Heavy reliance on a few large AI-driven customers and intense competition from major cloud providers create risks for revenue stability and margin pressure.
  
• Expansion into international and premium markets offers growth, but increasing regulatory demands could raise compliance costs and limit profitability gains.
  
• Reliance on volatile customer segments, competitive pressures, and costly innovation needs may threaten sustainable growth, margin expansion, and customer retention.

Catalysts

A storage cloud platform, provides businesses and consumers cloud services to store, use, and protect data in the United States and internationally.

• While Backblaze is benefiting from the explosive growth in data creation and the surging demand driven by AI workloads, the company faces the risk that this growth remains concentrated among a few large customers, leading to potential revenue volatility and making sustained, broad-based growth more uncertain over time.
  
• Although the acceleration of cloud adoption and the expansion of hybrid architectures are expanding the addressable market for cloud storage, Backblaze must contend with intensifying competition from hyperscalers that can further commoditize pricing and squeeze smaller players, which may weigh on net margins and limit operating leverage.
  
• While the launch of new higher-value offerings such as B2 Overdrive demonstrates product innovation and the ability to command premium pricing for high-performance workloads, this focus on large AI customers makes Backblaze more exposed to rapid shifts in technology or customer preferences, which could cause revenue concentration risk and hamper earnings visibility.
  
• Despite the company's progress in improving operational efficiency and benefiting from longer hardware life, Backblaze continues to operate in an industry where larger cloud players can leverage superior economies of scale, placing ongoing downward pressure on gross margin and necessitating substantial capex investments that may strain free cash flow if top-line growth stalls.
  
• While international and upmarket expansion represent significant opportunities for incremental revenue, rapid growth in global data sovereignty rules and regulatory requirements could drive higher compliance costs and operational complexity, potentially offsetting gains in revenue and constraining future earnings upside.

Backblaze Future Earnings and Revenue Growth

Assumptions

• This narrative explores a more pessimistic perspective on Backblaze compared to the consensus, based on a Fair Value that aligns with the bearish cohort of analysts.
• The bearish analysts are assuming Backblaze's revenue will grow by 15.4% annually over the next 3 years.
• The bearish analysts are not forecasting that Backblaze will become profitable in next 3 years. To represent the Analyst Price Target as a Future PE Valuation we will estimate Backblaze's profit margin will increase from -31.7% to the average US IT industry of 7.4% in 3 years.
• If Backblaze's profit margin were to converge on the industry average, you could expect earnings to reach $15.5 million (and earnings per share of $0.23) by about August 2028, up from $-43.6 million today. The analysts are largely in agreement about this estimate.
• In order for the above numbers to justify the price target of the more bearish analyst cohort, the company would need to trade at a PE ratio of 46.3x on those 2028 earnings, up from -9.6x today. This future PE is greater than the current PE for the US IT industry at 29.5x.
• Analysts expect the number of shares outstanding to grow by 7.0% per year for the next 3 years.
• To value all of this in today's terms, we will use a discount rate of 9.23%, as per the Simply Wall St company report.

Backblaze Future Earnings Per Share Growth

Risks

• Ongoing secular decline in the Computer Backup segment, particularly on the consumer side, is expected due to changing behavior such as increased reliance on streaming and mobile devices, which could lead to downward pressure on recurring revenue over time.
  
• Heavy reliance on AI and upmarket B2 customers for outsized growth introduces volatility and concentration risk, as recent outperformance was driven by a few large AI wins; any loss, reduced expansion, or delayed ramp of these customers could negatively impact top-line growth and future net revenue retention.
  
• Competitive pricing pressures from hyperscale cloud providers and continuous advances in local storage technology may compress margins and limit Backblaze's ability to raise prices or differentiate, potentially impacting future gross margins and limiting operating leverage.
  
• Significant capital expenditures required to maintain and upgrade infrastructure for high-performance offerings like Overdrive, especially when expanding internationally, could weigh on free cash flow and stretch the balance sheet if not matched by sustained, broad-based revenue increases.
  
• The pace and scale of required ongoing innovation, particularly in security, AI-integrated features, and large enterprise functionality, may strain R&D resources; failure to keep pace with industry leaders or meet evolving customer expectations could impair customer retention and suppress cross-sell and upsell revenue opportunities.

Valuation

• The assumed bearish price target for Backblaze is $8.0, which represents the lowest price target estimate amongst analysts. This valuation is based on what can be assumed as the expectations of Backblaze's future earnings growth, profit margins and other risk factors from analysts on the more bearish end of the spectrum.
  
• However, there is a degree of disagreement amongst analysts, with the most bullish reporting a price target of $15.9, and the most bearish reporting a price target of just $8.0.
  
• In order for you to agree with the bearish analysts, you'd need to believe that by 2028, revenues will be $210.7 million, earnings will come to $15.5 million, and it would be trading on a PE ratio of 46.3x, assuming you use a discount rate of 9.2%.
  
• Given the current share price of $7.37, the bearish analyst price target of $8.0 is 7.9% higher.
  
• We always encourage you to reach your own conclusions though. So sense check these analyst numbers against your own assumptions and expectations based on your understanding of the business and what you believe is probable.