Zoom Video Communications (ZM 0.66%) rewarded shareholders who bought the stock prior to the pandemic, returning 391% in 2020. The company was a clear beneficiary of the work-from-home environment, a trend that is still very evident today. According to the U.S. Bureau of Labor statistics released in January, 11% of workers were still teleworking as of December 2021.
According to TechRepublic, Zoom commands almost 50% of the global market for video call platforms, placing the company at the forefront of the secular growth industry. It's possible that the pandemic will have a lasting impact on our working environment, as many companies will be more open to a flexible work schedule moving forward. With Zoom well-positioned to capitalize on that new reality as a leader in the space, is today a great time to consider buying the company's stock?
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A rough start to 2022 despite strong financial performance
Zoom shares have lost over 60% of their value in the past six months as part of a broader tech sell-off in response to rising interest rates and inflation. Revenue and earnings growth remain strong -- analysts are forecasting revenue and earnings per share to grow by 54% and 46% year over year up to $4.1 billion and $4.87 per share in fiscal year 2022, respectively. Zoom has almost no debt, boasting a debt-to-equity ratio of 2% and a strong cash position of $1.3 billion. The company also grew free cash flow by over 1,100% in fiscal year 2021 up to $1.4 billion. The significant climb in free cash flow was a result of superb revenue growth stemming from pandemic-driven demand.
There is one caveat worth mentioning -- Zoom's growth in the coming years is expected to let up significantly from current levels. As the pandemic unwinds and Zoom becomes a more mature company, it's inevitable that sales growth will come down from its all-time highs. Analysts are forecasting Zoom's revenue to come in at $7.7 billion in fiscal year 2026, indicating an average annualized growth of 13% from 2022 estimates. Double-digit revenue growth for the next five years surely isn't bad, but it doesn't compare to the company's 160% compound annual growth rate over the past three years.
On the earnings front, Wall Street analysts are forecasting an average annualized growth of 28% over the next five years up to an earnings per share of $6.21 per share in fiscal year 2026. This is more favorable than Zoom's expected top-line scenario, but many investors still might be hesitant to pay a lofty valuation for the company when taking into account the deceleration in growth.
Valuation is shrinking, but still not enough
Zoom's valuation has surely contracted, but it's still not desirable when observing the company's peer group. Today, Zoom is trading at 31.6 times earnings, whereas top competitors like Cisco (CSCO 0.76%), Microsoft (MSFT -0.64%), and Alphabet (GOOGL -3.89%) (GOOG -3.68%) are trading at price-to-earnings multiples of 20, 31, and 24, respectively. Given the expected slowdown in Zoom's growth, I think it's safe to say that the company is still trading at expensive valuation multiples.
ZM PE Ratio data by YCharts
Zoom's financials remain strong, but I think the company needs to improve future growth prospects to justify trading at current valuation multiples. With revenue and earnings growth expected to pull back in the years ahead, I wouldn't be surprised to see growth-oriented investors exit their positions in Zoom stock. The slowdown in growth, combined with ongoing macroeconomic headwinds and geopolitical concerns, will put additional downward pressure on Zoom's valuation for the foreseeable future.
Is it time to buy Zoom?
As a long-term investor, I don't ignore past performance, but I'm generally more interested in where the company is heading. Zoom has provided investors with spectacular growth and returns in the past couple of years; however, I don't see that continuing into the future. The pullback in pandemic-driven demand, in addition to increased competition from massive tech companies like Microsoft and Alphabet, will challenge Zoom's business moving from here on out. With growth expected to hit the breaks in the years ahead, the company will likely become less attractive to investors who bought into Zoom's growth story.
In addition to that, I don't think Zoom is currently trading at an attractive-enough valuation -- investors who are still excited about the stock may be wise to wait for a larger decline before considering an investment. Zoom's future doesn't look quite as bright as it once did.
