It's normal for growing companies to lose money; a young business often invests every cent it earns into the company to capture as much of a market as possible. But eventually, shareholders want to see profits. Twilio (TWLO -1.59%), which went public in 2016, is still losing money.
Wall Street isn't patient with unprofitable companies in this bear market, and Twilio has become a broken stock after falling a staggering 83% from its high. However, you need context to differentiate between damaged stocks and broken businesses. Here is why Twilio is poised to see brighter days ahead.
Digging into why Twilio loses money
Twilio is a cloud-based communications company that sells software via an application programming interface, or API. This lets companies integrate messaging tools into their digital products.
For example, imagine you schedule an appointment with a business for next month. You get a reminder text the week before your scheduled time, reminding you of the appointment and giving options for rescheduling if needed. There isn't someone manually tracking your appointment and sending you a text -- it comes from automated software.
Twilio's capabilities extend beyond text messages and include chat channels, video, in-app messaging, and more.
Many companies use Twilio's software, which has more than 275,000 active customer accounts. However, Twilio's messaging software hasn't commanded very strong profit margins. You might expect more from a software company that doesn't have a physical product that requires manufacturing or shipping.
TWLO Gross Profit Margin data by YCharts
Twilio's CEO, Jeff Lawson, acknowledged at a recent conference that the messaging products structurally carry lower margins than traditional software and that it, essentially, is what it is. However, that's not necessarily the end of the story.
Twilio has an excellent customer base to cross-sell to and is working to develop new, more profitable offerings like Twilio Flex and Twilio Engage to expand from simply enabling communications to powering customer engagement and becoming a more important player in how companies interact with customers.
Well funded for adversity
Twilio is investing more money to develop and sell these new products, which shows up both in the company's marketing and research and in its development spending. You can see below that the company's cash burn remained stable until late 2021 as these expenses kept increasing.
TWLO Research and Development Expense (TTM) data by YCharts
You can't take things for granted, so investors should acknowledge that Twilio is a riskier stock until the company shows that new products like Flex and Engage can grow and make the overall company more profitable. The messaging product is the overwhelming majority of the business, so it could take a while for Flex and Engage to move the need.
However, there are signs of progress to look for. Twilo booked its largest-ever Flex deal in the second quarter of this year. Additionally, management reiterated its goal of non-GAAP operating profits in 2023. Investors should look for these milestones to progress over the coming quarters.
In the meantime, investors shouldn't worry too much about Twilio's financials. The company has plenty of cash to endure short-term losses, including $4.4 billion, against just under $1 billion in debt. Considering cash losses were $253 million over the past year, Twilio has enough money to potentially burn this much cash for years before running out.
Is Twilio a home run from here?
Twilio's significant decline makes it an intriguing stock if you can stomach the volatility and risk of an unprofitable company in this bear market. The stock trades at an enterprise-value-to-sales ratio of just 3, its lowest as a public company. Wall Street is selling the stock like it's going out of business, but Twilio has 275,000 customers and enough cash to survive many quarters ahead.
The degree to which Twilio succeeds at growing and reaching profitability will determine the ultimate payoff for investors. Still, the overwhelmingly negative sentiment seems to at least position investors for far more upside than downside from where Twilio trades today.
