Earlier this year, enterprise cloud storage company Box delayed an expected IPO after filing with the SEC, instead opting to raise an additional $150 million in funding from private investors. This much-needed cash infusion has allowed Box to wait for more favorable market conditions, and it now seems that the company is finally ready to go public. Box updated its SEC filing on Dec. 10, and a 2015 IPO for Box now appears to be the plan.
Box's updated financials show that the company continues to spend heavily in order to acquire new customers. Revenue is growing rapidly, albeit slower than in the past, but the heavy spending facilitating this revenue growth is producing huge losses. Box competes with fellow cloud storage company Dropbox, which is also expected to IPO in the near future, as well as tech giants Microsoft (NASDAQ:MSFT) and Google (NASDAQ:GOOG)(NASDAQ:GOOGL), both of which severely undercut Box on price.
During the nine months ending on Oct. 31, Box recorded $153.8 million in revenue. During the same period, sales and marketing spending alone totaled $152.4 million, and Box's net loss came out to $121.5 million. Costs grew more slowly than revenue did over the past year, but Box is still hemorrhaging money.
Because Box's business model involves selling subscriptions, these numbers don't really tell the whole story. While it appears that Box is spending more to acquire a customer than it receives from that customer, the lifetime value of a customer can be far higher than the revenue produced by that customer in the first year. As long as a customer sticks with Box for a long period of time, the initial investment to acquire that customer should be more than made up for.
In Box's updated filing, the company runs the numbers on all of the customers that it acquired in fiscal 2010. While the contribution margin for these customers was negative in 2010, by 2014 Box was generating more revenue from these customers than it was spending to support them.
Revenue in 2010 was much lower than it is today, and these same results may not apply to more recent customer acquisitions. But this example demonstrates the potential power of a subscription-based business model. Box's seemingly heavy spending is a necessary part of its business model, and the hope is that, eventually, Box can acquire enough customers and revenue such that the company can turn an overall profit.
A big problem
While Box's strategy makes sense, competition in the cloud storage market has become fierce. Dropbox has increasingly turned its attention to the enterprise, and both Microsoft and Google are being extremely aggressive. Both companies charge far less for stand-alone cloud storage than Box, and both give away unlimited cloud storage with their respective productivity suites. What's worse, these productivity suites, Microsoft Office and Google Apps, are priced lower than what Box charges for cloud storage alone.
A bigger problem, though, is that the switching costs associated with cloud storage are essentially nonexistent. Spending heavily to acquire new customers only makes sense if those customers remain for years, but with switching cloud storage solutions as easy as moving around some files, it's hard to imagine a high-priced option like Box being able to retain customers in the long run. Box has stated that only 5% of its customers chose not to renew their subscription in the year ending on Oct. 31, but it's only been in the past year that Microsoft and Google became extremely aggressive.
There are already some signs that Box's growth is slowing down. Revenue grew by about 80% year over year during the past nine months, but this is significantly slower than the growth of the past few years. A more serious issue, though, is a slowdown in billings, which is the amount invoiced to customers during any given period. Through the first nine months of this year, billings grew by just 46% compared to the same period last year, dramatically slower than the 109% growth rate during the first nine months of 2013.
Is Box an IPO to buy?
The biggest risk with Box is that the company is spending heavily to acquire customers that ultimately won't stick around very long, given the lower-priced options available and the nonexistent switching costs associated with cloud storage. Box is still a very long way from being profitable, and it needs to grow revenue substantially from here before profitability becomes a possibility. Only 10% of Box's customers actually pay for its service, with the rest using the free option, and Box has to eat the cost of supporting those free users in the hope that they someday convert to paid users.
With Microsoft and Google giving away cloud storage with their productivity suites, which many enterprise customers already use, Box is facing the task of selling what has essentially become a commodity at a higher price with far fewer features than the competition. Growth is clearly slowing, and while Box has enough cash to survive for a while, an IPO will likely be necessary sometime next year. When Box finally does goes public, I suggest that investors stay away.