Is Twilio Stock a Buy?

Twilio (TWLO +3.45%) shareholders have been on a wild ride this year. The stock climbed over 60% through July, only to see much of the gains erased as the year winds to a close. 

TWLO data by YCharts

With the market souring on this fast-growing communication platform, is it worth adding to your portfolio? Let's answer that question, but first let's dive into the business, the opportunities ahead, and why it's losing money.

The business of Twilio

Twilio makes the process of generating messages (email, voice, video, and text) via software easy with its programmable communications cloud. Developers can download the software and build a prototype messaging application in an afternoon. Once a company discovers the power of the platform, it's hooked and ends up spending more every year. This loyalty has driven Twilio's impressive dollar-based net expansion numbers consistently above 130%.

Data source: Company reports and earnings calls. Table by author.

Organic growth (without the SendGrid acquisition) has eclipsed 45% since Q1 2018, but analysts were disappointed with the recent quarter's revenue growth and the outlook for the upcoming quarter. Q3 saw a deceleration from last year's third quarter 68% number, and Q4 is forecasted to be around 53% over last year, including SendGrid. Q4 expectations are a far cry from the 77% growth without SendGrid in Q4 last year.

Image source: Getty Images

Even though some analysts were disappointed, CFO Khozema Shipchandler is encouraged about next year. He said that 2020 would see organic growth similar to the 47% achieved in Q3 and hinted that "hopefully we can deliver something elevated in the future."

The CFO has every right to be optimistic as this business has plenty of runway ahead.

Twilio has many ways to grow

The programmable communications cloud is the company's largest and fastest-growing segment, but it's also the biggest opportunity. In the most recent earnings call, CEO Jeff Lawson explained:

We're very confident that the demand environment for our customer engagement platform and the inputs to our business are strong... we've only scratched the surface [of our opportunity].

One example of the opportunity is its under penetration in international markets. Even though the company's software can operate in over 180 countries around the world, its revenue from outside the U.S. only amounted to 25% of the total for 2018.

In addition to the core platform, Twilio has released two products in the last year that expand its reach into new areas: call center management software (Flex) and a developer kit for the Internet of Things. These have seen recent customer wins but still aren't material to overall results. Shipchandler indicated the Flex product could be material by "the back end of 2021, maybe 2022."

The recent acquisition of SendGrid expands its core communication platform to include email. This was a natural fit for the Twilio product suite and it is capitalizing cross-selling opportunities with SendGrid's 74,000 customers.

Adding this all up, the company estimates its addressable market to be $66 billion annually. With its $1 billion in trailing twelve-month revenues, it has only tapped about 1.5% of its long-term opportunity. 

But it comes at a cost.

Twilio is losing money

This fast grower has never posted a profit. In fact, so far this year it has incurred $276 million of operating losses. The reason for these losses is that it's investing in growth, including spending on new product development, sales and marketing efforts, and expansion of operations both domestically and internationally. Even though it's racking up losses quarter after quarter, the balance sheet is solid.

It has almost $1.9 billion in cash and marketable securities with only $466 million in long-term debt. This cash hoard will allow the company to continue to invest heavily in growth for years to come.

Considering all this, is this money-losing high-growth opportunity a buy today?

The bottom line

For investors who like leaders that are creating new markets, Twilio fits that mold. Some may be concerned with the valuation, but the recent pullback in the stock price has provided an opportunity to get this communications platform at a discount. Its current price-to-sales ratio (P/S) of 13 looks more affordable than some other software-as-a-service companies posting similar growth rates: Okta (P/S of 25), Atlassian (P/S of 22), and Zscaler (P/S of 18).

With a world of opportunity ahead, Twilio is a buy today for a specific kind of investor. If you want a proven growth company with a huge addressable market, aren't concerned about short-term profitability, and are comfortable holding for the long term, you could do well by adding this communications software service leader to your portfolio.