Zendesk (NYSE:ZEN), which provides its cloud-based customer service platform in over 140 countries, raised $115 million during its IPO last May. The company sold 12.78 million shares at $9 each, and the stock popped 49% to $13.43 on its first day of trading. Since then, shares have rallied an additional 70%, but it has been a pretty bumpy ride. Let's take a closer look at where Zendesk is now, and where it might be heading for the rest of 2015.
What Zendesk does
Zendesk help desk software allows companies to manage customer service issues through phone, email, online chat, and social media channels. Customer service managers can use its analytics apps to gauge how well customer service reps are performing. It also runs an online community discussion portal to build relationships with customers.
At the time of its IPO, Zendesk stated that it had around 42,000 revenue generating accounts, including Airbnb and Uber. By the fourth quarter of 2014, that number had risen to 51,721. The company reported that 27,600 customer accounts were using subscription plans other than its entry level Starter Plan, indicating that many customers upgraded their accounts to ones generating higher revenue. Zendesk software pricing currently ranges between $1 to $195 per agent per month.
Its top and bottom lines are moving in opposite directions. Zendesk revenue rose 80%, 76%, and 71% year-over-year for the past three quarters. During that same period, it reported GAAP-adjusted net losses of $21.7 million, $17.9 million, and $17.5 million.
A major weight on the bottom line is stock-based compensation. In fiscal 2014, Zendesk paid out $32.1 million in stock bonuses, which was equivalent to a quarter of its annual revenue. By comparison, Zendesk paid out less than 7% of its revenue as stock bonuses in fiscal 2013. Zendesk likely boosts salaries with stock as its free cash flow is currently negative, but this practice dilutes existing shares.
Zendesk revenue rose 76% to $127 million in fiscal 2014. However, the company only expects top line growth of 45% to 50% in 2015. It also expects its bottom line to remain in the red with a GAAP-adjusted operating loss between $76 million to $78 million. Simply put, revenue growth is slowing down, and it is still nowhere close to profitability.
Despite these top and bottom line woes, Zendesk stock still trades with a price-to-sales ratio of 14 times. Salesforce.com (NYSE:CRM), the 800-pound gorilla in the cloud-based customer service space, is fundamentally cheaper at just eight times sales..
The future for Zendesk
Zendesk mainly serves small to medium-sized businesses (SMBs). IDC expects global cloud revenue from SMBs to rise 22% between 2014 and 2018. Unfortunately, Salesforce is also expanding into that space with Desk.com, its SMB alternative to its Sales Cloud software suite for large companies.
Speaking to PC World, Desk.com general manager and senior VP Leyla Seka claimed that Desk.com can match Zendesk "feature-for-feature" and also "grow with" its customers. In other words, Desk.com customers can eventually upgrade to Sales Cloud when their businesses are big enough.
Zendesk serves large customers like Adobe and AOL, but large CRM players like Salesforce, SAP, Oracle, IBM, and Microsoft still dominate half of the CRM (customer relationship management) market, according to Gartner.
Desk.com is also aggressively priced to challenge Zendesk at $3 to $50 per agent per month. If Zendesk lowers the prices of its higher-end services in response, its top and bottom line growth issues could worsen.
The bumpy road ahead
Before Zendesk can be considered a worthy investment, it should achieve a positive free cash flow, offer investors a clearer path to profitability, and demonstrate that it can hold its ground against Salesforce. If it cannot accomplish all three, it will remain a speculative investment driven by short-term traders and headlines rather than fundamental growth.
Leo Sun has no position in any stocks mentioned. The Motley Fool recommends Adobe Systems, Gartner, Salesforce.com, and Zendesk. The Motley Fool owns shares of International Business Machines and Oracle. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.