DocuSign (DOCU -0.26%) is the leader in e-signature technology, and its Agreement Cloud platform is transforming the way businesses draft contracts and negotiate deals. But the company is coming off a pandemic-driven sugar high. It aggressively invested in growth to serve the stay-at-home economy, while sustaining heavy net losses.
But the economy has shifted, and so the company has now been focusing on delivering profitability. The good news is that it succeeded in the fiscal 2024 first quarter (ended April 30); however, that came with a rather concerning consequence. Here's what investors need to know before buying DocuSign stock.
DocuSign's Agreement Cloud is revolutionary
The Agreement Cloud is a collection of more than 15 different applications designed to manage every step of the contract life cycle. It also integrates with more than 400 different software systems like Salesforce, for example, and customers have built a further 1,000 integrations through the DocuSign application programming interface.
The Agreement Cloud allows a business to draft a contract from scratch, collaborate with the other parties to make amendments quickly and easily, and (of course) it facilitates digital signatures. DocuSign has also developed artificial intelligence (AI) tools like Insight, designed to help businesses rapidly scan agreements for problematic clauses or even potential opportunities, saving them untold amounts of money in legal fees.
Insight also features natural language processing, which allows the user to search documents not only for keywords, but also for legal concepts. DocuSign says 61% of businesses struggle to search the full text of a contract effectively, and that almost half of all business risks stem from an inability to proactively detect problematic language. That's why tools like Insight are so powerful and will only grow more advanced over time.
Overall, DocuSign currently has more than 1 billion users worldwide with 1.4 million paying customers. They include some of the world's largest companies operating in industries like financial services, healthcare, and technology.
Pursuit of profitability is hurting revenue growth
Like many technology companies over the last few years, DocuSign has invested heavily in growing its customer base and revenue while generating net losses. The conventional wisdom suggests that after rapidly acquiring customers, a software company like DocuSign can eventually cut its operating costs to drag its bottom line out of the red, and into profit territory.
It's a valid line of thinking because DocuSign has a high gross profit margin of 79%, so the majority of its costs are in fact variable and can be trimmed. But not without consequence.
For example, in the recent fiscal 2024 first quarter, the company had 6,586 employees, which was a 14% reduction compared to the same time last year. It also trimmed its marketing spending by about 6% and kept its investment in research and development flat.
With less marketing and brand awareness, combined with fewer employees and a smaller sales force, DocuSign has gradually seen its revenue growth approach stall speed. As the chart below shows, it came in at just 12% year over year in the 2024 first quarter, whereas it was 58% just two years ago.
The good news is that the bottom line is improving. DocuSign lost $70 million in fiscal 2022 and a further $97 million in fiscal 2023. But in the first quarter of fiscal 2024, it actually generated a tiny profit of $539,000. While not significant in dollar terms, it was definitely symbolic because it sets the company up for potential full-year positive earnings.
It might not be time to buy the stock just yet
Make no mistake -- with interest rates rising and inflation still elevated, DocuSign was right to chase profitability because it has been extremely difficult to access fresh capital in this environment. Over the last two years, investors have punished the stock prices of companies that continue to lose bucketloads of money with no reprieve.
But the winds might be shifting. The Nasdaq-100 Technology Sector index has soared 39% so far in 2023, and sentiment has measurably improved toward risk assets like stocks. As a result, DocuSign might find itself in a conundrum where its quarterly revenue slips into single-digit percentage growth during a time where investors actually favor a more aggressive risk profile.
That could be one reason DocuSign stock has heavily underperformed in 2023, with a decline of 4% despite the surge in the Nasdaq-100. As of this writing, the stock remains 82% below its all-time high. Given DocuSign's investments in AI and its leadership position in digital agreements overall, there's every chance the company will find its next stage of growth in the future.
As a result, investors might believe the stock's risk-reward proposition is attractive at current prices, especially since the company is now profitable. But it might be a good idea to review management's strategy over the next couple of quarters before diving in.
