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Why Is Everyone Talking About Zoom Video Communications Stock?

By Herve Blandin – May 5, 2020 at 12:45PM

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It's not only because the coronavirus-induced stay-at-home policies boosted the demand for video communications.

Coronavirus-induced stay-at-home policies boosted the use of Zoom Video Communications' (ZM -2.86%) video product, which now attracts hundreds of millions of daily participants. But there are more reasons why everybody is talking about that high-growth tech company.

Video communications made simple

Zoom's core offering -- video communications -- doesn't rely on any new or disruptive technology. For instance, Skype launched video calling on Microsoft's Windows in 2006, allowing free video communications over the Internet. It then proposed group video calling for up to 10 people in 2010. But Zoom revolutionized video communications, as it offers a simple solution that contrasts with the complexity of other products such as Cisco's Webex and Microsoft's Teams.

Before the coronavirus outbreak, Zoom's revenue growth rate was already astonishing. During its fiscal year 2020 ending on Jan. 31, revenue jumped to $622.7 million, up 88% year over year. And in contrast with many high-growth tech stocks, Zoom generated profits under generally accepted accounting principles (GAAP). During the last 12 months, net income attributable to common stockholders reached $21.7 million, up from $0 million the year before.

Those spectacular results triggered the interest of investors, too. The company's stock price increased to $89.98 on May 18, 2019, up 150% compared to its IPO (initial public offering) price of $36 per share only one month before. And after some ups and downs, the stock price exceeded $90 on Feb. 14, 2020, long before the World Health Organization (WHO) declared COVID-19 a pandemic on March 11.

Woman wearing headphones and participating in a video conference call on a laptop in a cafe.

Image source: Getty Images.

The coronavirus boosted the use of video communications

As several countries enforced stay-at-home policies to try to limit the spread of the coronavirus, video communications became an essential need, and the popularity of Zoom exploded, boosted by management's decision to expand its free offerings. "Zoom" has even become a verb as many people host their virtual communications and gatherings with Zoom's products.

As a result, management reported on April 22 that the number of daily meeting participants had exceeded 300 million, up from 10 million in December. 

That stellar growth brought more scrutiny to the company's relaxed security and privacy practices. For instance, researchers found out that the company had misled its users about the strength and scope of its encryption mechanisms. But these security issues didn't seem to prevent people from using Zoom products.

And as an illustration of Zoom's success, giant actors such as Microsoft, Facebook, and Cisco are trying to contain Zoom's growth by improving their video solutions, or by even offering them for free. For instance, Facebook announced in April that, over the next few weeks, it would be deploying its new product Facebook Rooms, which will allow up to 50 participants in a video call for free. Microsoft simplified Skype, making it available without software and without a user account. And Alphabet's Google announced last week that its video communications tool Meet would be available for free for everyone. 

That increasing competition has been generating more discussions about Zoom, as it has become a reference in video communications.

Looking forward

The fact that users, investors, and enterprises are talking about Zoom Video Communications doesn't mean prudent investors should buy the stock, though.

Granted, the company is poised to profit from the secular increase in the use of video communications, and the coronavirus pandemic may have accelerated that trend. But the company's lofty enterprise value-to-sales ratio of 59, based on trailing-12-month revenue, indicates that the market expects that impressive growth to continue over the long term despite the intensifying competition.

Besides, it remains to be seen whether the recent surge in meeting participants will translate into revenue growth, as many users may take advantage of the company's free offerings. In fact, profitability could diminish, at least in the short term: The company had to expand its infrastructure to support the sudden increase in the use of its solutions.

Thus, given its sky-high valuation due to the explosive growth of its popular video solution, Zoom will still trigger many discussions for quite some time, including after its first-quarter earnings report on June 2.

Suzanne Frey, an executive at Alphabet, is a member of The Motley Fool's board of directors. Teresa Kersten, an employee of LinkedIn, a Microsoft subsidiary, is a member of The Motley Fool's board of directors. Randi Zuckerberg, a former director of market development and spokeswoman for Facebook and sister to its CEO, Mark Zuckerberg, is a member of The Motley Fool's board of directors. Herve Blandin owns shares of Cisco Systems. The Motley Fool owns shares of and recommends Alphabet (A shares), Alphabet (C shares), Facebook, Microsoft, and Zoom Video Communications and recommends the following options: long January 2021 $85 calls on Microsoft, short January 2021 $115 calls on Microsoft, and short May 2020 $120 calls on Zoom Video Communications. The Motley Fool has a disclosure policy.

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