Amazing growth rates took Zoom´s stock to the moon. Beware of gravity returning.
So far I never wrote about a single stock being overvalued. And I don´t know if it is a good time to start with Zoom, just as the stock breaks through 200 USD per share and is about to release spectacular growth numbers for the quarter. But I just have to. Rarely have I seen so many ingredients for investors getting their fingers burned with a hot stock. But first, let´s give this company the credit it deserves.
Zoom Video Communications (not to be confused with Zoom Technologies – see amazing story about “efficient” markets here) is a 9 year old company from California. It offers Video Conferencing easy to use and to scale up to several hundred participants. Since the launch of Zoom 1.0 with up to 25 participants user growth has been amazing:
- Jan 13: 400K
- May 13: 1M
- Sept 13: 3M
- June 14: 10M
- Feb 15: 40M
By the time Zoom went public in April 2019 more than half of Fortune 500 companies were already using it. And then came Covid19. Daily average users rose from about 10 million in December 2019 to about 200 million in March 2020 with 300 million daily meeting participants by the end of April 2020. That growth story took Zoom´s stock from 68 to 203 USD per share YTD:
The first quarter of 2020 was perfect for Zoom stock: Millions of people relied on video conferencing for the first time. They liked the service and googled the stock only to find out that the shares were defying gravity during the weeks of February and March along side producers of face masks and PPE. Meanwhile almost all other stocks got crushed in one of the worst downturns in stock market history. Zoom was one of the very few positive stories of Wall Street and I would not be surprised if a lot of the 3 million users that e-trade company Robinhood gained this year where jumping on the stock. And so far they have been right following the trend.
But that perfect story led to a valuation that cannot be described but with “priced to perfection”. Just before releasing quarterly results Zoom traded at a market cap of 57 billion USD and
- 190 USD per daily user
- P/E of 2250
- P/S of 60
- P/B of 118
I know that value metrics are very hard to use for a company growing at that breakneck speed. But they give you a sense of what kind of expectations investors pile on Zoom. If Zoom triples sales and the stock stays where it is today, it would trade at P/S of 7,5 and still be really expensive – even for growing B2B business models. That tripling in sales would need most likely a tripling of users – 900 million daily users are possible but would mean that about one out of 5 worldwide internet users would turn to Zoom everyday.
And what about profitability? Sure you should ride a growth wave like that and think about margins later. But at some point investors should ask themselves: Is this a market where an independent company is likely to be hugely profitable? I doubt that looking at the competition:
- Apple (Facetime)
- Google (Meet)
- Microsoft (Teams)
- Facebook (Workplace)
Is it possible that Zoom wins the race in video conferencing against the biggest tech companies on earth with a massive user base, deep pockets and a history of crushing young companies in relevant business areas? Sure. Is it likely? No. I don´t see any reason why those companies should not copy the most popular features from Zoom and not only catch up but overtake it with usability and features. I don´t see any meaningful barriers – no network effects, no patents.
Summing up: Zoom is an amazing company with incredible growth rates that got an extra boost from the quarantines around the globe in Q1/Q2. That growth story will be very hard to uphold from a large user base that might turn to less extensive use of video conferencing in Q3/Q4. Zoom happens to be in a business with the most formidable competition and no sustainable advantage over products that are going to improve rapidly over the next 6 months. The stock trades on sky high expectations that are most likely going to be disappointed. I´m sticking my neck out here as the story and price trend of Zoom stock is still intact. But that risk seems to fine to me compared to holding Zoom stock right now.