Veeva Systems (NYSE:VEEV), a leading provider of cloud software for life sciences, is rallying after a great third quarter. Digital transformation is alive and well in the healthcare and biotech industries, and Veeva has been a big beneficiary of the movement. While sales growth is showing no signs of letting up, valuation on the stock may still be preventing some investors from buying in. That argument has some merit, even in spite of Veeva's unrelenting success.

Power to the sciences

While most enterprise software companies cater to the needs of many business types, Veeva is unique in that it focuses on life sciences. To make up for its narrower focus on one segment of the business world, the company offers a number of cloud-based services, such as customer relationship management, data management, application development tools, and quality control and regulatory solutions.

It's been a winning strategy for years. Revenue has doubled since the beginning of 2018, topping $800 million over the last trailing 12 months, and the company expects to exceed $1 billion in sales in 2019 for the first time. Veeva said it had 675 customers at last report, ranging from some of the world's largest pharmaceutical companies to small biotech start-ups.

Because of its niche focus on helping health-related disciplines, Veeva has been able to progressively expand relationships with existing clients as their needs grow. As clinical trials finish up, Veeva says it's been renewing contracts as new projects start. A new system to manage all aspects of clinical trial data also launched over the fall, giving the company a new way to go after biotech start-ups. The result has been a solid pipeline of recurring revenue and a steadily growing number of new relationships with big pharma and small health-science start-ups alike.

A doctor holding a stethoscope up to an illustrated symbol of a person, representing digital health care.

Image source: Getty Images.

2018 so far

Financial results over the past few years have pleased investors overall, and 2018 so far has been no different. Veeva continues to grow at a double-digit pace and is showing few signs of slowing down.

Metric

Nine Months Ended Oct. 31, 2018

Nine Months Ended Oct. 31, 2017

YOY Change

Revenue

$630 million

$505 million

25%

Gross profit margin

71.3%

69.8%

1.5 p.p.

Operating income

$160 million

$119 million

34%

Adjusted earnings per share

$1.18

$0.72

64%

Data source: Veeva Systems. p.p. = percentage point.  

In its third-quarter earnings results, management upped its guidance for the end of the current fiscal year. Revenue is expected to be at least $226 million, about a 22% year-over-year increase. With profit margin increasing as Veeva scales its operations, that should equate to even bigger increases in the bottom line.

The ill effect of high growth

Veeva's ability to grow its business is impressive, and the software provider's unadjusted profitability metrics are a rarity among its peers -- where dumping money into expansion efforts often yields operating losses.

The result is a high valuation on Veeva's stock. One-year forward price to earnings sits at 58.5 as of this writing, and price to free cash flow -- money left over after basic operating expenses and capital expenditures are paid for -- isn't much better at 52.7. Paying for half a century's worth of profits doesn't sound like much of a bargain.

Buying in on Veeva, however, requires looking at future potential rather than current results. Prices reflect the expectation that sales will continue growing by double digits, and that the bottom line will grow even faster, as it has been this year. If the company can maintain that pace, the aforementioned valuation metrics could be considerably more reasonable than they are today, at least when assuming share prices remain unchanged.

However, with expectations running high, bear in mind that any miss can send the stock sharply lower. With Veeva Systems continuing to fire on all cylinders, though, investors should keep an eye on this one and buy those inevitable dips when they do occur.

Nicholas Rossolillo and his clients have no position in any of the stocks mentioned. The Motley Fool owns shares of and recommends Veeva Systems. The Motley Fool has a disclosure policy.