Is Box Inc. a Buy at Its IPO Price?

Box (BOX 0.76%) has had a tough time since its IPO in late January. The cloud storage company went public at $14 per share, soared to $23 on the first day of trading, but lost 40% of its value in the following months. Earlier this month, Box topped second-quarter earnings estimates, but the stock subsequently dipped below its IPO price. Let's take a look at why Box keeps slipping and whether or not investors who missed the IPO should consider picking up shares at an even lower price.

Box's Android app. Source: Google Play.

Mind the GAAP
Last quarter, Box's revenue soared 43% annually to $73.5 million, exceeding estimates by $3.6 million. Billings rose 45% and the company finished the quarter with over 50,000 paying customers. Those numbers looked solid, but there were concerns regarding the wide gap between Box's non-GAAP and GAAP earnings and margins.

Box's non-GAAP net loss widened from $29.1 million to $33.1 million, a loss of $0.28 per share, which still beat estimates by a penny. Non-GAAP operating margin also improved from -57% to -45%. But on a GAAP basis, Box's net loss widened much more, falling from $37.6 million to $50.2 million. GAAP operating margin improved much less, rising from -74% to -68%.

The difference between Box's GAAP and non-GAAP earnings suggests that its dependence on stock-based compensation (20% of its revenue last quarter), various intangible assets, and special charges should keep its bottom line deep in the red for the foreseeable future.

Trampled by giants
A pressing concern is that smaller cloud storage companies like Box and Dropbox could eventually be squeezed out of the market by larger rivals like Microsoft (MSFT -1.27%) and Google (GOOG -1.10%) (GOOGL -1.23%). At first glance, a direct comparison between these services leaves Box and Dropbox in the dust:

Source: CNET, August 2015.

Microsoft and Google can offer cloud services as loss leaders to tether more users to their ecosystems, which could marginalize "pure play" cloud storage companies like Box. Last November, Box CEO Aaron Levie told The Information that cloud storage would inevitably be "free and infinite" in the future.

For Box to stand out in that market, it needs to develop better-paid services on top of its storage solutions and promote them effectively. This is why Box's operating expenses rose 30% annually to $102.6 million last quarter, due to an 18% jump in sales and marketing expenses and a 62% spike in research and development costs. Looking ahead, Microsoft, Google, and other tech giants might keep outspending and undercutting Box to render its services obsolete.

The contrarian view
However, investors shouldn't overlook Box's popularity among huge enterprise customers like General Electric, Procter & Gamble, and Uber. Its retention rate, which includes renewals and sales of additional services, remains well above 100% -- indicating that these big boys won't move their data to Microsoft or Google's servers anytime soon. Box claims that over half of its paid customer base consists of employees of Fortune 500 companies.

Box integrates its platform with Salesforce and NetSuite, which helps customers synchronize their files with other popular enterprise platforms and collaborate on large projects. Box recently integrated its platform with Office 365, which Levie called the "beginning of a very exciting partnership" with Microsoft during last quarter's conference call. Box also partnered up with IBM (IBM 0.06%) to integrate its platform with IBM's IT services and select IBM MobileFirst for iOS apps. IBM will also help enterprise customers integrate Box into their existing systems.

EMC (EMC) also recently divested Syncplicity, a cloud storage business that competes against Box. That exit, Levie claims, could help Box's competitive position "get stronger every quarter." Levie also stated that Box "remained committed" to achieving positive free cash flow by early 2017.

The key takeaway
Those bullish points indicate that Box isn't a little cloud player that will get steamrolled easily by the larger players. Instead, it's a company that cleverly leverages its popularity among large businesses to secure promising partnerships with enterprise giants IBM and Microsoft. But despite its strength in enterprise, I'd like to see Box's net losses, margins, and free cash flow start flowing in the right direction before I buy any shares.