Initial public offerings (IPOs) get investors riled up for a reason -- they usually present an opportunity to invest in the growth stage of a business and to get in while that business is still on the ground floor. But investing in IPOs is also riskier than investing in traditional large-cap or blue chip companies. New issues tend to see more volatile trading in their first few months on the market as investors dig into the business and make sense of the company's valuation.
In 2019, there have been several high-profile companies go public, including Lyft and Uber. Here, we look at another recent tech debut: Zoom Video Communications (NASDAQ:ZM), an enterprise-facing company that provides cloud-based conferencing and messaging solutions. Zoom is already a large company with a market cap at $19.1 billion. So, will Zoom Video soar higher as we head into 2020, or will it struggle, as many of its IPO peers have done in 2019?
A rollercoaster debut
Zoom Video is a one-stop-shop for business meetings, webinars, conferencing, phone calls, and instant messaging. It offers simplified video conferencing and messaging across devices -- its platform can host 100 interactive video participants and 10,000+ attendees. The company's Zoom Phone and Zoom Chat offerings deliver a streamlined user experience to modernize employee interactions and make collaboration easier between teams.
Founded in 2011, Zoom Video raised about $161 million of funding prior to its IPO. It was backed by major venture capital firms, including Sequoia Capital, Emergence, and Horizon Ventures, according to Crunchbase.
Zoom Video went public in April 2019 with the company issuing over 20 million shares at a price of $36 per share and raising $752 million.
As you can seen in the above chart, within months, the stock quickly soared to an all-time high above $100. However, as has been the case for many of 2019's IPOs, Zoom pulled back in the fall, down nearly 40% below its high but still 80% above its IPO price.
Huge contracts won in the second quarter
Though investors may be concerned about Zoom's valuation, which drove the recent sell off, the company's fundamentals and growth metrics are strong. In its fiscal 2020 second quarter, Zoom reported sales of $146 million, up 96% year over year. Revenue in the July quarter exceeded the company's own guidance and drove profitability and cash flow higher.
Management claimed that the demand for solutions was strong across geographies, and the company managed to increase its customer base by gaining traction with existing customers and expanding its footprint by cross-selling offerings. Zoom ended the period with 66,300 customers, and new customers accounted for 61% of total sales in the second quarter.
Zoom has won major contracts with HSBC, for example, which will standardize business operations on the Zoom platform and deploy its solutions to 5,500 conference rooms. HSBC will also consolidate Zoom's video-first unified communication platform for internal and external meetings. Zoom claimed that HSBC's large-scale deployment is one of the largest in its history.
Zoom also partnered with Verizon Business Group in the second quarter. Regarding this partnership, Zoom CEO Eric Yuan stated, "This agreement with Verizon is a great example of our strategy to partner with top global service providers to extend the reach of Zoom around the world. The new service is available on Verizon's network and their sales team are already trained and enabled to sell Zoom."
On the back the stellar second quarter, Zoom also increased its full-year revenue guidance about 10% to a range of $587 million to $590 million.
A leader in Gartner's Magic Quadrant
While Zoom Video has managed to grow sales at a rapid pace over the years, it still competes with tech giants such as Cisco and Microsoft in the collaboration space. However, Zoom was named as a leader in Gartner's Magic Quadrant for meeting solutions along with Cisco and Microsoft. The Magic Quadrant rates companies on two major criteria -- completeness of vision and ability to execute -- before placing companies in one of four quadrants: leaders, challengers, visionaries, and niche players. Companies in the leader quadrant have the highest score for the two criteria mentioned and are considered to have a deep understanding of market requirements.
Another research firm, Markets and Markets, estimates the enterprise collaboration market to grow at an annual rate of 9% from $31 billion in 2019 to $48 billion in 2024. The report states that the adoption rate for enterprise collaboration solutions will be driven higher by an increase in user devices and social networking websites. As business transformation projects continue to gain pace, several companies are now looking at a remote workplace environment to cut costs and drive efficiency which again will increase demand for enterprise-facing workspace products.
Though Zoom has primarily focused on the U.S. market, international expansion has the potential to extend sales growth over the long-term. The Asia Pacific region is a high potential growth market for enterprise collaboration. In fiscal 2019, the company generated 100% of sales in the U.S.
A young company in an enviable position
While most tech IPOs, including CrowdStrike, Lyft, Uber, and Slack are currently projecting huge losses, Zoom is already profitable on an adjusted basis. In fiscal 2019, Zoom reported sales of $330.5 million with net income of $7.6 million.
Analysts expect Zoom's adjusted earnings to jump from $0.03 per share in fiscal 2019 to $0.19 per share in fiscal 2020 . Zoom Video is a fast-growing and increasingly profitable company. It's also debt free and generating lots of cash to reinvest in its expansion.
The stock is one of the few tech IPOs in 2019 that's performing well on the market. Uber, Lyft, Peloton, and Slack, among others, are all trading below their original IPO listing price. That said, Zoom is valued at over 40 times sales and over 400 times forward earnings estimates, making this a very expensive stock. As is often the case, investors are paying a hefty premium, hoping to cash in on the company's strong growth.
Given these dynamics, the stock will be very vulnerable in a broader market sell-off. Investors should target major dips as buying opportunities to get a piece of Zoom's huge addressable market and soaring revenue.