High-growth tech stocks aren't usually considered defensive investments, but many of them are naturally insulated from the COVID-19 crisis and other macro headwinds. Those strengths have attracted a stampede of bulls over the past year, but many of those high-flying tech stocks are now wildly overvalued.
Here's a trio of beloved tech stocks that have generated huge returns, but could be running out of room to run: Zoom Video Communications (ZM 1.15%), Pinduoduo (PDD 1.18%), and ServiceNow (NOW 2.36%).
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1. Zoom Video Communications
Zoom's stock surged nearly 300% this year as the COVID-19 crisis turned its video conferencing platform into a household name. Its revenue rose 88% in fiscal 2020, which ended this January, as its adjusted net income soared 514%.
That dazzling growth continued in the first quarter, as its revenue and adjusted earnings surged 169% and 555%, respectively, throughout the start of the pandemic. Its number of customers contributing over $100,000 in revenue over the past 12 months also jumped 90% year-over-year.
Zoom expects its full-year revenue to rise 185%-189%, and for its adjusted EPS to soar another 246%-269%. But looking further ahead, analysts expect a significant slowdown, with 25% revenue growth and 19% earnings growth next year.
We should always be skeptical of analysts' long-term forecasts, but two factors could cause that slowdown. First, rival platforms -- including Cisco's Webex, Facebook's Messenger Rooms, and Alphabet's Google Meet -- could lure away its users. Second, the COVID-19 growth spurt was likely temporarily, and should fade after the pandemic passes. Those challenges make it tough to justify buying Zoom's stock at about 200 times forward earnings and nearly 40 times this year's sales.
2. Pinduoduo
Shares of Pinduoduo, the third largest e-commerce player in China, soared over 150% this year as it generated robust revenue growth throughout the COVID-19 crisis. Pinduoduo's platform encourages shoppers to team up on bulk purchases to score bigger discounts, and it's expanding that model -- which initially caught on in lower-tier cities -- into higher-tier cities.
Image source: Getty Images.
Pinduoduo's revenue rose 130% last year and grew another 44% in the first quarter of 2020. However, its net losses also widened year-over-year during both periods.
Pinduoduo is trying to shake off its reputation as a marketplace for low-quality, generic, and counterfeit goods by attracting bigger brands. To accomplish that, Pinduoduo convinces brand-name merchants to sell products at steep discounts, then subsidizes the difference to undercut its bigger rivals Alibaba and JD.com.
That strategy is arguably unsustainable, especially as Alibaba and JD -- which are both firmly profitable -- expand into lower-tier cities with competing discount marketplaces. Analysts expect its revenue to rise 61% this year, but for its net loss to widen again.
Pinduoduo's slowing growth, widening losses, and narrow moat all make it tough to justify buying its stock, which trades at nearly 17 times this year's revenue. Investors who want a piece of China's e-commerce market should buy Alibaba or JD instead.
3. ServiceNow
ServiceNow, which helps companies manage their digital workflows with cloud-based tools, aggressively expanded via acquisitions after its IPO in 2012. It served over 6,200 customers at the end of 2019, including 80% of the Fortune 500. 890 of those customers were locked into annual contracts worth over $1 million.
ServiceNow's revenue rose 35% last year, and its adjusted net income jumped 37%. That growth continued in the first half of 2020, as its revenue rose 30% year-over-year and its adjusted net income surged 69%. For the full year, it expects its subscription revenue to rise 29%-30%. Analysts expect its total revenue and earnings to rise 27% and 33%, respectively.
Those are still exceptional growth rates, but its stock has already rallied nearly 60% this year, and trades at over 100 times forward earnings and 19 times this year's sales. Those lofty valuations, along with its decelerating growth, suggest ServiceNow's upside potential could be limited as it saturates its core market of enterprise customers and faces competition from rivals like Zendesk.
