Digital communications company Zoom Video Communications (ZM -0.82%) has become a battleground stock. After soaring during pandemic lockdowns, shares are right where they were before. That includes a 60% decline year to date. I wouldn't blame anyone for wondering aloud when the pain will end for shareholders.
It's not an easy picture to paint. There are good reasons why the stock has fallen out of favor with Wall Street. But fear not: When you look at the numbers, Zoom's share price might be closer to the bottom than not. Here's why investors should consider being more bullish on the stock heading into 2023.
The good news: Zoom has held on to its lockdown growth
The pandemic lockdowns forced people to communicate digitally, which gave Zoom a massive boost. You can see below that revenue exploded by roughly 350% during that time. However, growth retreated as the world opened back up, and the company is now barely growing. The dramatic slowdown has a lot to do with the stock's struggles.
ZM revenue (quarterly YoY growth); data by YCharts. YoY = year over year; TTM = trailing 12 months.
But it's not like Zoom was a flash in the pan; it's clear that the lockdowns pulled forward a lot of its growth. But it hasn't given up those gains. The company retained the business it gained, which means it is much larger today than before the pandemic, when shares traded at a similar price.
The bad news: growth is getting harder
The picture looking ahead is less clear. Zoom's operating expenses are ballooning (see the chart below), and growth is still slowing. Higher comparable figures of 2021 versus 2022 have much to do with Zoom's slowing growth, but that year-over-year hurdle will be much lower in 2023 when growth is based off of 2022 numbers.
ZM revenue (quarterly YoY growth); data by YCharts.
But it's not a great sign that Zoom is spending so much more to achieve little growth; it's like straining much harder to lift a lighter weight. Ideally, operating expenses would grow as fast or slower than revenue, but the opposite is happening this year. The increased spending is starting to reduce cash profits, evidenced by declining free cash flow in the chart above. Investors should watch this trend; increasing operating expenses can be a red flag if growth doesn't pick up soon.
The stock might be oversold
Markets can overreact, and that could be the case with Zoom. While the slowing growth and increased spending are concerning, the stock's valuation has been pummeled. Both the stock's price-to-sales ratio (P/S) and price-to-earnings ratio (P/E) are near the lows from any point that Zoom's been a public company. The P/E is a 50% premium to the S&P 500, which trades at a P/E of 21.
Yet analysts believe Zoom will grow earnings per share by an average of 20% annually over the next three to five years. Considering the S&P 500's historical annual growth rate is about 10%, it would imply that Zoom is a bit oversold relative to its potential growth.
ZM revenue (quarterly YoY growth); data by YCharts.
Investors probably shouldn't expect the lofty valuations we saw in 2021 anytime soon, but Zoom's slide could finally stop in 2023. Furthermore, there's room for solid investment returns if Wall Street rates the company's valuation higher. That could require either a broader market rotation back toward technology stocks or an uptick in its growth, both of which could be in the cards in 2023. Only time will tell, but it seems much of Zoom's problems are priced into its shares.
