Down 68%, This High-Growth Stock Looks Wildly Undervalued

Riding the pandemic-fueled adoption of its e-signature products, DocuSign (DOCU -0.26%) rapidly became one of the tech darlings that saw its share price explode during the peak of COVID-19.

Rising nearly 1,000% after its initial public offering in 2018, DocuSign peaked above $300 per share as its core products became essential for individuals and enterprises alike.

However, over the last six months, DocuSign has seen its shares punished, dropping over 60%, thanks to decelerating billings growth.

Image source: DocuSign earnings presentation.

The company accounts for billings as revenue plus the net change in contracts outstanding during the year. While this slowing top-line growth is somewhat concerning, the company still increased this metric 37% year over year in its latest quarter -- on top of pandemic-aided comps that pulled a massive amount of growth forward. That's a testament to its products' continued uptake.

Leading the charge for this continued growth has been DocuSign's net dollar retention (NDR) of 119% as of its fiscal 2022 year end.

Let's look at why this NDR is essential to the business and its long-term growth ambitions.

Why net dollar retention is crucial for DocuSign

Net dollar retention measures how DocuSign's existing customer base is increasing their spending with the company each year, including customer churn. When NDR is around or above 120%, it's an encouraging sign, highlighting strong organic growth within the company.

NDR is particularly vital to DocuSign as it operates using a land-and-expand business model. Through its well-known e-signature offering, the company has its foot in the door with nearly 1.2 million customers so far.

Now, DocuSign wants to build upon these relationships, encouraging existing customers to expand into its broader Agreement Cloud suite of services. The Agreement Cloud covers four processes -- prepare, sign, act, and manage -- of which e-signature is just one portion.

Now, why exactly is this Agreement Cloud important to DocuSign investors?

Because 88% of the company's sales in the fiscal 2022 fourth quarter came from large enterprise and commercial customers. This figure is significant, because these customers have deep pockets and may look to DocuSign to meet their other agreement-related needs.

Best yet for investors, DocuSign grew its total number of enterprise customers from 125,000 in 2020 to 170,000 in 2021, recording 36% growth. Furthermore, the company now has 852 customers with an average contract value above $300,000, up 42% from the previous year.

As long as DocuSign continues to see growth from these enterprise customers -- helping to maintain its high NDR -- better days could be on tap for its share price.

Image source: Getty Images.

DocuSign's incredible "Rule of 40" strength

The Rule of 40 metric is frequently used to analyze software-as-a-service (SaaS) companies by combining growth and free cash flow generation. Specifically, the Rule of 40 is a business's revenue growth rate added to its free-cash-flow margin.

Generally, anything above a 40 signifies a strong business, especially when the growth and margin figures are both positive -- the higher, the better.

Let's take a look at DocuSign through this lens, for both the full year and latest quarter.

Data source: DocuSign earnings presentation. Table by author.

As can be seen in the table, DocuSign's Rule of 40 totals are strong -- particularly its score for the full year. While the number drops off when only looking at the fiscal fourth quarter, it's still impressive for a company as young as DocuSign, especially considering how it's just beginning to ramp up its optionality with the Agreement Cloud.

Thanks to DocuSign's balanced Rule of 40 inputs, continued net-dollar-retention strength, and discounted share price, the stock look wildly undervalued and could be a great option for long-term buyers.