Nearly every sizable public company has posted one or two solid quarters where they showed off strong growth. What separates a regular growth stock from a hypergrowth stock is the ability to post strong revenue increases quarter after quarter for years. Two companies doing just that are Twilio (TWLO +3.77%) and Unity Software (U +3.09%).
Each company's management is projecting strong growth years into the future. And each recently reported strong earnings and provided a catalyst that each stock needed to reverse its downward price trend.
Image source: Getty Images.
1. Twilio
Businesses can communicate with customers through text, email, or video with Twilio's communication software, which allows its clients to easily write programs using APIs (application program interfaces) with almost no coding experience. Different APIs can be used to construct mass-alert messages, create marketing campaigns, or facilitate a conversation. The vast API library has many solutions for businesses of all sizes.
Receiving texts from businesses has become more common over the last few years, and the trend has benefited Twilio. Since the first quarter of 2017, it has posted no less than 34% year-over-year organic revenue growth in each subsequent quarter including the 34% figure achieved during its most recently reported quarter (Q4 2021).
Examining its organic revenue growth is vital as it has made several acquisitions -- like SendGrid, Zipwhip, and Segment -- that would skew the growth metric if taken at face value. For Twilio, any acquisitions made after Nov. 1, 2020, are excluded to give investors a better picture of how the core business is executing.
CEO Jeff Lawson affirmed his company's commitment to 30% annual organic revenue growth over the next three years in his remarks issued Feb. 9. Stringing that together with the previous five years, growing revenue at more than a 30% annual rate for eight consecutive years would be a feat few companies have achieved, but Twilio seems primed to do it.
Putting that into perspective, 30% annual growth over eight years would turn $1,000 into $8,157. Any investor would be thrilled with a similar return; Twilio gives you a chance to invest in a stock capable of that.
One caveat is the company's serial unprofitability. It has never posted a quarter with even non-GAAP profits. However, Twilio is hardly losing much money as it recorded a $27 million non-GAAP loss during the fourth quarter, for a negative 3% net profit margin. Starting in 2023, Lawson projects the company will deliver non-GAAP annual profitability consistently. These projections were well received by the market, which responded by sending its shares up more than 10% after the news before they were dragged down by broader overall weakness in stocks.
The stock has dipped below its pre-pandemic price-to-sales ratio, despite growing its price at nearly the same rate over that time frame.
TWLO PS ratio. Data by YCharts.
With strong revenue growth ahead and a reasonable valuation, investors can be confident in the returns Twilio's stock can provide.
2. Unity Software
Unity Software has two main business segments. Its create solutions segment has best-in-class 3D animation software that can create video games, engineering models, or virtual reality (VR) spaces. Its operate solutions side maintains and monetizes video games created on its platforms. It also has multiple tools to understand how users interact with the games. Unity also has a strategic partnership division (which works to improve technological performance and deliver better developer experiences across hardware and software), but it isn't as financially impactful as the other two.
Like Twilio, Unity Software's management is confident about its future. Chief financial officer Luis Visoso not only believes the company can grow revenue by 30% annually in the short-run (like Twilio) but also over the long term. Unity delivered on this during the fourth quarter, increasing revenue by 43% to $316 million. Each division also posted solid results.
| Division | Revenue Growth | Revenue Share |
|---|---|---|
| Create Solutions | 49% | 31% |
| Operate Solutions | 45% | 62% |
| Strategic Partnerships | 12% | 7% |
Source: Unity Software.
Unity is also barely unprofitable like Twilio. Its non-GAAP loss was $12 million, or a negative 4% margin. But it can continue building its animation empire since it has more than $1 billion in cash on its balance sheet.
Both companies incentivize their employees heavily with stock, which creates wide disparities between GAAP (generally accepted accounting principles) and non-GAAP earnings -- as non-GAAP excludes stock-based compensation as an expense. Twilio and Unity racked up $187 million (22% of revenue) and $98 million (31% of revenue), respectively, in stock-based compensation during the fourth quarter, leading to heavy share dilution.
TWLO shares outstanding. Data by YCharts.
As the share count increases, each investor owns less of the company, similar to how inflation affects the dollar. Hypergrowth companies often do this, so it isn't unheard of, but investors must understand the risks associated with it.
Both companies are committed to growing at a 30% minimum pace annually over the next few years, and investors should note that it's rare for companies to consistently achieve this.
But Twilio and Unity are two that have done it and can continue to do so. Consider picking up each of these hyper-growth stocks -- which are currently trading down more than 40% from their all-time highs -- and holding them for at least three to five years to benefit from the potential sustained growth of 30% or more.
