Zoom Video Communications (ZM 1.57%) hasn't been a stock-market winner over the past few months, but that unfortunate trend could be ending. The software platform business, which sells communications and collaboration services, just announced solid Q3 demand trends and improving profitability. Management said that enterprise clients are finding more value in its platform and losses are slowing in its online segment, as well.
The big question is whether Zoom can build on this momentum as it aims to reaccelerate growth over the next few years. Let's peek ahead into that potential future and what it could mean for Zoom's shareholders.
The foundation
Zoom surpassed some low expectations around growth this past quarter. Q3 sales gains decelerated, in fact, to 3.5% from 4.5% in the prior quarter. Yet management had been projecting even weaker results in both the enterprise segment and the online business. Enterprise sales were up 8%, a slight slowdown, compared to the prior quarter.
Shareholders were also pleased to see the online division take another small step toward stability. It shrank by just 2%, compared to the prior-quarter's 4% drop. "Revenue came in ahead of guidance as we bolstered Zoom's...collaboration platform with advanced new capabilities," CEO Eric Yuan said in a press release.
The plan of attack
Investors won't see great returns from holding Zoom stock until these operating trends improve. Other companies in the space are growing more quickly, suggesting that Zoom isn't yet winning steady market share in its pivot toward the enterprise niche. Microsoft expanded its productivity software sales at a 13% clip in the most recent quarter, for context.
Zoom is aiming to accelerate growth over the next few years by expanding its platform to offer more services. The software specialist is also hoping to make its existing communication and collaboration products more valuable through the addition of artificial intelligence (AI) tech.
Management highlighted a new meeting-summarizing feature as an example of this strategy at work. "We continue to innovate and expand our platform," Yuan said. Investors can expect this strategy to form the foundation of Zoom's growth focus over the next few years.
Is the stock a buy?
Zoom shares are valued at a discount that reflects the uncertainty around whether the business's best growth days are behind it. You can own the growth stock for 4x revenue, down from a pandemic peak of over 60x sales. Microsoft is valued at 13x sales, for context.
Zoom's valuation will look like a steal in retrospect, but only if the company can reinvent its business in the next few years. The best metrics to watch for signs of success here are sales growth and average contract size.
Zoom needs to offer increasing value to its customers so that they renew their contracts at higher annual rates. Lately, for context, enterprise clients, on average, are spending 9% more than they did a year earlier.
The stock seems like a good candidate for watching rather than buying -- at least until Zoom can start winning more market share in its core communications niches. The good news is that the business is sitting on plenty of cash and is profitable right now. But shares won't look compelling until management can show progress at using those resources to reaccelerate Zoom's growth.
