Noted investor Cathie Wood, the founder and CEO of Ark Investment Management, gained fame in 2020 thanks to her philosophy of investing in companies capable of disruptive innovation. All six of Ark's exchange-traded funds (ETFs) appreciated more than 100% during that year. The S&P 500, meanwhile, notched gains of just 16% in 2020.
However, Wood's flagship fund, the Ark Innovation ETF (ARKK 1.05%), has lost 60% of its value since the beginning of 2021. What's more, Wood's fund has failed to recover substantially in the past year. It has recorded gains of just 20% as compared to the Nasdaq-100 Technology Sector index's 53% gains.
Twilio (TWLO 1.47%), which is the 15th-largest holding in the Ark Innovation ETF, has contributed to this underperformance with gains of just 17% in the past year. It is also worth noting that Wood's flagship fund has been consistently reducing its Twilio stake in 2024. That's not surprising given the cloud communications specialist's recent run of results.
Why Ark has been reducing its exposure to Twilio
The Ark Innovation ETF held almost 5 million shares of Twilio at the end of 2023. That number is now down to 3.1 million. The company has been going through a management transition, changing its CEO last month. Additionally, it is now undertaking an operational review of its Segment business unit, which it purchased in November 2020 for $3.2 billion in a bid to strengthen its position in the customer data platform market.
Twilio recorded an impairment charge of $286 million in the previous quarter "related to the intangible assets acquired as part of the Segment acquisition." This explains why the company is now reviewing the business unit to "identify the appropriate path forward for improved execution and profitable growth."
However, this wasn't the only point of concern for investors when Twilio released its fourth-quarter 2023 results on Feb. 14. The company's quarterly revenue increased just 5% year over year to $1.08 billion. However, Twilio's non-GAAP earnings increased to $0.86 per share last quarter from $0.22 per share in the year-ago period, driven by the company's share repurchase program and focus on reducing costs through moves such as layoffs.
Twilio's revenue and earnings exceeded consensus estimates, as analysts would have settled for $1.04 billion in revenue and $0.56 per share in earnings. The outlook for the current quarter also wasn't up to the mark. Twilio anticipates revenue to increase between 2% and 3% year over year in the first quarter of 2024 to $1.03 billion. That's lower than the $1.05 billion consensus estimate.
The company's bottom-line growth is also set to slow down. Twilio has guided for $0.58 per share in adjusted earnings in the current quarter at the midpoint, an increase of 19% from the year-ago period. Additionally, Twilio management didn't issue a full-year revenue outlook because of the review of the Segment business.
There were other red flags as well. Twilio's dollar-based net expansion rate came in at 102% last quarter, down from 110% in the same period last year. This metric refers to the amount spent by Twilio's customers on its services during a period to the amount spent by the same customer cohort in the year-ago quarter. A reading of more than 100% indicates that Twilio's existing customers increased their spending on its offerings.
However, a dollar-based net retention rate of 102% means that the spending by its existing customers barely increased year over year. This metric has been heading south over the past couple of years; it stood at a healthy 126% in the fourth quarter of 2022.
Another problem with Twilio is that its customer expansion has slowed down. The company finished the previous quarter with 305,000 active customers, an increase of just 5% over the prior year. Analysts were expecting Twilio to end the quarter with 311,000 active customers.
All of this tells us why Cathie Wood's flagship fund has been dialing down on Twilio. However, with share prices of Twilio down 19% following its latest earnings report, should investors use this drop as a buying opportunity in light of the tremendous end-market opportunity Twilio is sitting on?
Are there chances of a turnaround?
Twilio is the leading player in the communications platform as a service (CPaaS) market with a market share of 37%, according to Synergy Research Group. The market is expected to generate $12 billion in revenue this year, according to Future Market Insights. Analysts are expecting Twilio to deliver $4.4 billion in revenue in 2024, which means that its CPaaS market share is likely to remain intact. By 2034, the CPaaS market is anticipated to generate almost $121 billion in annual revenue, indicating that Twilio could be at the beginning of a solid growth curve.
So, the long-term prospects of the CPaaS market over the next decade suggest that Twilio could regain its mojo and start growing once again, especially due to the increasing adoption of artificial intelligence (AI) in this niche. Twilio launched a generative AI-powered platform last year, called CustomerAI, which could help its clients drive stronger sales and improve customer interaction.
Twilio made its AI platform generally available to customers in the third quarter of 2023. Since then, the company's CustomerAI Predictions tool has been used by 150 customers. Last quarter, Twilio started testing the CustomerAI Recommendations tool, which it says "helps determine the products that are most likely to drive purchases and engagement for each unique customer."
These innovations could help boost Twilio's cross-sales, lead to improved customer spending, and drive stronger growth in the long run. So, investors would do well to keep this tech stock on their watch lists and can consider buying it once there are concrete signs of a turnaround because the massive potential of the CPaaS market could supercharge Twilio once again.
