Last year, Veeva Systems (VEEV 0.30%) shares dropped by 36%, partly due to marketwide troubles, although there were company-specific issues to worry about, too. Perhaps the biggest problem with the company was its valuation. Even after the recent sell-off, Veeva Systems' forward price-to-earnings (P/E) ratio is about 38, which is much higher than the S&P 500's average of 19.
The life sciences-focused, cloud-based software specialist could justify its rich valuation metrics over the long run if there were enough growth potential. Is that the case? Let's have a closer look at Veeva Systems' business.
Slowing top-line growth is a problem
Veeva Systems reported financial results for the third quarter of its fiscal year 2023, ending on October 31, 2022, back in December. The company's quarterly revenue increased by 16% year over year to $552.4 million. On the bottom line, Veeva's adjusted net income rose to $183.2 million, nearly 16% higher than the year-ago period.
That's not a bad performance, but Veeva Systems' revenue growth in its third quarter compares unfavorably to the kind of growth rates investors are used to with the company.
VEEV Revenue (Quarterly YoY Growth) data by YCharts.
Veeva Systems may continue to see unimpressive (by its standards) growth rates for a few quarters. Slowing revenue growth can be a major problem for any company, especially one trading at a high earnings multiple like Veeva Systems.
That's an important trend to monitor closely when Veeva comes out with its next quarterly update. A disappointing performance could send the company's stock off a cliff even though it's held up so far this year. Should investors wait for a more attractive entry point before initiating a position?
What's your investing timeline?
Even with slowing revenue growth, there's much to like about Veeva Systems' business. It's a leader in its niche of the cloud market, where it targets life sciences companies. Veeva's cloud-based solutions allow its clients to navigate a highly regulated and capital-intensive healthcare industry better and faster than they otherwise would, thereby helping them bring their products to market with less regulatory risk while improving their efficiency and productivity.
Veeva Systems' business is critical to the day-to-day operations of its customers, who cannot switch cloud-based software providers without risking business disruptions. In other words, Veeva benefits from high switching costs, a powerful competitive advantage. As a result, the company can retain most of its customers and gain new ones while maintaining its competitors at arm's length. For its fiscal 2022, ended Jan. 31, 2022, Veeva Systems recorded a retention rate of 119% for its subscription service.
The company's retention rate was 124% and 121% for the two prior fiscal years. Veeva's management is also in the habit of setting revenue targets and achieving these goals years in advance. In 2015, the company established a target of $1 billion in revenue in 2020, which it hit in 2019. Veeva Systems is also one year ahead of its 2025 goal of $3 billion in revenue.
And there should still remain plenty of growth potential ahead. The company estimates a more than $13 billion total addressable market (TAM). This should easily provide enough fuel for the company to continue growing its revenue and earnings at a good clip in the next decade. And it's hard to imagine it not finding even more ways to make money, given the massive $2 trillion life sciences industry.
The company's long-term prospects remain excellent, even if Veeva Systems encounters issues in the near term. Investors thinking about initiating a position in the company should, therefore, consider their timelines. For those looking to hold the company's shares for five years or more, waiting for a better entry point may not be worth it, especially since it's difficult to predict if (or when) that will come around.
In the long run, the company is well-positioned to deliver excellent returns. That's why I think Veeva Systems' stock is a buy today.
