Earlier this year, Ark Invest published a valuation model that prices Zoom Video Communications (ZM 1.57%) at $1,500 per share by 2026. That implies 2,043% upside from its current share price, meaning shareholders would see 21-fold returns in just over four years. Of course, CEO of Ark Invest Cathie Wood has earned a reputation for setting aggressive price targets that are easily dismissed -- but investors would be wise to at least consider the investment thesis for Zoom.
In 2019, Wood valued Tesla at $4,000 per share -- or $266.67 per share on a split-adjusted basis -- and while that forecast seemed preposterous at the time, Tesla stock actually topped her price target, peaking at $409.97 per share in 2021.
Is Wood right about Zoom?
Zoom benefits from a strong position in a large market
Zoom is best known for Zoom Meetings, videoconferencing software that saw viral adoption during the pandemic. But the company has evolved into a full cloud communications provider, and its platform also features an enterprise phone system (Zoom Phone), a corporate conference room system (Zoom Rooms), and a customer service solutions (Zoom Contact Center), among other communications tools.
Zoom has also branched into artificial intelligence (AI) software. For instance, Zoom IQ for Sales surfaces insights from interactions in Zoom Meetings to help sales teams work more productively, and Zoom Virtual Agent automates customer service requests to reduce the burden on contact center agents.
Currently, Zoom is the market leader in videoconferencing software, and many of its newer products are gaining momentum with customers. But Zoom has also struggled with churn as the effects of the pandemic have faded, and that has caused growth and profitability to deteriorate. In the most recent quarter, revenue rose just 5% to $1.1 billion, and non-GAAP earnings dropped 4% to $1.07 per diluted share.
On the bright side, the post-pandemic hangover seems to be wearing off. Churn among online customers (i.e. those that provision products through the self-service portal) has historically been much higher than churn among enterprise customers (i.e. those engaged by a direct sales team). But online customer churn returned to pre-pandemic levels in the most recent quarter, and management says revenue from the online cohort will stabilize by the second quarter of next year.
Additionally, remaining performance obligation -- an indicator of future revenue -- soared 32% to $3.2 billion in the most recent quarter. That is a bullish signal for shareholders because it implies revenue growth could accelerate substantially in the coming quarters.
Putting the pieces together, Zoom estimates its addressable market will reach $125 billion by 2026, with its four largest opportunities arising from videoconferencing, phone, contact center, and AI software.
Image source: Getty Images.
Ark's valuation model
Ark's valuation model assumes remote and hybrid work will become more common in the future. Specifically, 51% of global knowledge workers (excluding those in mainland China) engaged in remote or hybrid work in 2021, but Ark says that figure will reach 75% by 2026. That implies an addressable market of 832 million workers. Ark believes Zoom will capture 35% of that market, or 291 million workers, and that half of that figure will be paying users.
Additionally, Ark assumes the average revenue per user will grow at 26% annually to reach $356 by 2026, driven by especially strong adoption of (1) core videoconferencing, phone, and chat products and (2) AI software products. Putting the pieces together, Ark expects total revenue to surpass $51 billion by 2026, which implies annualized revenue growth of 79% over that period.
That is outrageously optimistic. While Zoom did consistently deliver triple-digit revenue growth during the early days of the pandemic, economic conditions are much more challenging today. So shareholders banking on quadruple-digit returns over the next four years will almost certainly be disappointed.
However, Ark's underlying investment thesis is solid. Zoom benefits from considerable brand authority in videoconferencing software, and that should help drive adoption of adjacent products. Moreover, businesses can cut costs and reduce complexity by standardizing on a single communications platform like Zoom.
With that in mind, shares currently trade at 4.9 times sales, which represents the cheapest valuation since the company went public in 2019. At that price, long-term investors should seriously consider buying this growth stock.
