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Better Buy: Zoom Video Communications vs. Alphabet

By Leo Sun - Jun 25, 2021 at 6:17AM

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Can the high-growth "pandemic stock" catch up to this FAANG stock?

Last November, I compared Zoom Video Communications (ZM 0.49%), one of the hottest growth stocks of the pandemic, to Alphabet (GOOG 0.55%) (GOOGL 0.43%), the tech juggernaut that owns Google. At the time, I claimed Zoom would generate bigger gains than Alphabet over the following year since the pandemic was "far from over" -- and more users could join Zoom as Google grappled with slower ad sales.

But since I made that call, Zoom's stock has declined nearly 20%, while Alphabet's stock has rallied more than 55%. Let's see why Zoom lost its luster while Alphabet attracted the bulls again.

A group of employees attend a Zoom call.

Image source: Zoom.

Zoom is still growing faster than Alphabet

Zoom became synonymous with video calls during the pandemic. Its catchy brand and simple group calls helped it disrupt a market filled with complicated enterprise-oriented services.

Zoom's basic tier is free, but paid users get longer meeting times, access to bigger meetings, cloud-based tools, and other perks. Larger clients, such as businesses and schools, often opt for its premium tiers.

Zoom generated incredible growth with its simple business model. Its revenue soared 326% to $2.65 billion in fiscal 2021, which ended in January, as its adjusted net income jumped 883% to $996 million.

However, Zoom also expects its growth to decelerate as the pandemic ends. For fiscal 2022, it expects its revenue to rise 50% to 51% and for its adjusted earnings to increase between 37% and 38%. Those growth rates are still impressive, but analysts expect even slower growth in 2023.

Zoom's uncertain future in a post-pandemic world -- along with competition from Facebook's Messenger Rooms, Google Meet, and Cisco's Webex, among others -- could make it tough to justify its frothy forward P/E ratio of 80. The rotation from growth to value stocks over the past few months has also made Zoom less appealing than well-established tech stocks like Google and its FAANG peers.

Zoom is widening its moat with new features, like its Events platform for ticketed live events, and hardware devices like phone appliances. However, many of Zoom's competitors already operate much larger ecosystems -- and they can afford to provide free video calls to lock in more users.

But Alphabet's ad business has recovered quickly

Alphabet struggled in the first half of 2020 as the pandemic throttled the growth of Google's ad business. Google cushioned the blow with its cloud business -- which benefited from the surging usage of online services during the pandemic -- but it generated lower-margin revenue than its advertising business.

That lopsided growth dampened my enthusiasm for Alphabet last November. However, Google's ad business recovered quickly in the second half of the year as more businesses reopened.

As a result, Alphabet's revenue still rose 13% to $182.5 billion for the full year. Google's ad revenue, which accounted for 80% of that total, increased 9%. Its cloud revenue, which accounted for another 7% of that total, surged 46%. Its net income increased 17% to $40.3 billion.

Unlike Zoom, which faces a post-pandemic slowdown, Alphabet's growth will likely accelerate this year as its ad and cloud businesses expand. Analysts expect its revenue and earnings to grow 30% and 49%, respectively, in fiscal 2021, before cooling off in fiscal 2022.

Those are high growth rates for a stock that trades at just 26 times forward earnings. That lower valuation should make Alphabet a more attractive investment if the market continues to shun growth stocks.

Alphabet's business is more diversified than Zoom's, but it continues to expand into new markets with Waymo, its driverless vehicle subsidiary, and its life sciences subsidiaries Calico and Verily. Those companies are still much smaller than Google, but they could generate surprising growth in the future.

The near-term winner

The last time I compared these two companies, I underestimated the resilience of Google's ad business and overestimated the market's willingness to pay high premiums for "hyper-growth" stocks like Zoom. I also expected the pandemic to drag on for a lot longer.

But now I believe Alphabet will outperform Zoom for the rest of the year. Zoom still has a lot to prove, and investors will likely still favor stable growth stocks like Alphabet over speculative ones like Zoom.

That being said, Zoom still has a lot of growth potential. It's continued to expand in the face of daunting competition, and it could gradually expand its video conferencing platform into a more complex suite of cloud services. If that happens, Zoom might still beat Alphabet over the long term.

 

Suzanne Frey, an executive at Alphabet, 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. Leo Sun owns shares of Cisco Systems. The Motley Fool owns shares of and recommends Alphabet (A shares), Alphabet (C shares), Facebook, and Zoom Video Communications. The Motley Fool has a disclosure policy.

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Stocks Mentioned

Zoom Video Communications Stock Quote
Zoom Video Communications
ZM
$102.88 (0.49%) $0.50
Alphabet Inc. Stock Quote
Alphabet Inc.
GOOGL
$120.06 (0.43%) $0.51
Alphabet Inc. Stock Quote
Alphabet Inc.
GOOG
$120.99 (0.55%) $0.67

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