Zoom In to find a hidden Gem

Section 1: Key Takeaway

Zoom Video Communications, Inc. (ZM) has proven to be a significant player in the tech industry, especially highlighted by its performance during the COVID-19 pandemic.

Known for its reliable and user-friendly video conferencing solutions, Zoom has not only maintained a strong market presence but has also shown substantial financial growth. With a robust business model and continuous innovation, ZM stock represents a noteworthy investment opportunity.

Section 2: Introduction

Name: Zoom Video Communications

Ticker: ZM

Sector: Information Technology

Industry: Software

Market Cap: 19.43 $B

Eyestock Rating: 113% High

Valuation: Greatly Undervalued

Up side: +293.4%

Dividend: NO

Zoom Video Communications, Inc. (ZM) has become a household name, particularly in the wake of the COVID-19 pandemic. Known for its seamless video conferencing solutions, ZM attracted a wide range of investors’ attention as an investment of the highly publicized ARKK fund managed by Cathie Wood.

The stock nearly experienced a «pump and dump» situation, soaring to $559 during the COVID-19 pandemic due to a combination of weak financial performance and hype, only to plummeted to $60 per share on similarly weak financials. It seemed like a sad end to the story, but after the hype settled, a miracle occurred.

Throughout 2022, the company reported strong earnings, but historical investor pain kept the stock from rising. Most of 2023 was not as successful for the company, but by the end of Q4 2023 and Q1 2024, the company started earning again and showed very respectable results.

This article delves into the various aspects of ZM stock, including its recent performance, financial metrics, valuation, and future prospects, providing a comprehensive analysis for investors considering this investment.

Section 3: Company Background

Zoom Video Communications was founded in 2011 by Eric Yuan (current CEO), a former Cisco executive. Yuan’s vision was to create a user-friendly video conferencing platform that addressed the limitations of existing solutions. Zoom quickly gained popularity due to its intuitive interface, high-quality video. The company’s business model revolves around a freemium approach, offering basic services for free while charging for premium features. 

Over the years, Zoom has expanded its product offerings to include webinars, cloud phone systems, and virtual events, further solidifying its position in the market. Key milestones in Zoom’s journey include its IPO in 2019 and its rapid growth during the global pandemic.

Section 4: Recent Performance

Zoom’s recent Q1 2024 performance has been characterized by impressive financial performance. 

In Q1 2024, Zoom Video Communications, Inc. (ZM) reported a total revenue of $1.14 billion, this represents a 3.2% increase compared to the same period last year.

The revenue breakdown highlights the company’s diverse income streams and strategic focus areas.

4.1 Enterprise Revenue

Zoom’s enterprise segment generated $632 million (55% of total revenue), marking a 5.3% year-over-year increase. This segment includes revenue from larger businesses and organizations that utilize Zoom’s comprehensive suite of services for communication and collaboration. The growth in enterprise revenue reflects the company’s successful efforts to expand its customer base and enhance its product offerings for larger clients.

4.2 Online Revenue

Revenue from online customers remained relatively flat year-over-year $475.5 million (40% of total revenue). This category primarily includes small businesses and individual users who subscribe to Zoom’s online services. Despite the stagnation in growth, maintaining this revenue stream is crucial for Zoom, as it provides a steady source of income and a broad user base.

4.3 Customer Base

At the end of Q1 2024, Zoom had approximately 191,000 enterprise customers. Notably, 3,883 of these customers contributed more than $100,000 in trailing 12-month revenue, an 8.5% increase from the previous year. This growth in high-value customers highlights Zoom’s ability to attract and retain significant business clients.

4.4 Porter’s Five Forces Analysis for Zoom Video Communications

Threat of New Entrants: Moderate

• Barriers to Entry: The barriers to entry in the video conferencing market are relatively low in terms of technology and initial capital. However, building a brand and achieving large-scale adoption is challenging and requires significant investment.
• Economies of Scale: Established companies like Zoom benefit from economies of scale, making it difficult for new entrants to compete on price and service quality.
• Brand Loyalty and Recognition: Zoom has established strong brand recognition and customer loyalty, which new entrants would find difficult to overcome.

Bargaining Power of Suppliers: Low to Moderate

• Number of Suppliers: Zoom relies on various suppliers for hardware, software, and cloud infrastructure. The abundance of suppliers in these areas reduces their bargaining power.
• Switching Costs: Switching costs for Zoom to change suppliers are relatively low, which further diminishes supplier power.
• Critical Partnerships: Some suppliers, such as those providing cloud services (e.g., Amazon Web Services), are critical. The dependency on these key suppliers can increase their bargaining power to some extent.

Bargaining Power of Buyers: High

• Buyer Options: There are numerous alternatives to Zoom, such as Microsoft Teams, Google Meet, Cisco Webex, and others, giving buyers high bargaining power.
• Price Sensitivity: Many buyers are price-sensitive, especially small businesses and individual users, which increases their power to negotiate.
• Switching Costs: The switching costs for buyers are relatively low, allowing them to easily move to a competitor if dissatisfied.

Threat of Substitutes: High

• Alternative Technologies: Various communication tools (like Slack for messaging, traditional phone systems, and in-person meetings) can serve as substitutes for video conferencing.
• Innovation: Rapid technological advancements and innovations can quickly introduce new substitutes that could outperform Zoom’s offerings.
• User Preferences: Changes in user preferences and the development of integrated communication platforms can increase the threat of substitutes.

Industry Rivalry: High

• Number of Competitors: The market is crowded with strong competitors such as Microsoft Teams, Google Meet, Cisco Webex, and others.
• Growth Rate: The rapid growth in demand for video conferencing during the COVID-19 pandemic has stabilized, leading to intensified competition for market share.
• Differentiation: Competitors continuously innovate and add features to differentiate their products, leading to a high level of rivalry.
• Price Wars: Competitive pricing strategies among these companies can lead to price wars, further intensifying rivalry.

Zoom operates in a highly competitive environment, characterized by significant threats from new entrants, substitutes, and intense industry rivalry. The bargaining power of buyers is high, driven by the availability of numerous alternatives. However, Zoom benefits from relatively low supplier power and has established a strong brand presence, which provides some competitive advantage.

Zoom’s Q1 2024 performance illustrates its resilience and adaptability in a competitive market. The company’s focus on enterprise solutions and AI integration into its platforms, such as the Zoom Contact Center and Zoom Workplace, positions it well for future growth.

Section 5: Financial Metrics and Valuation

Zoom’s financial health is back in 2024. In Q1 2024 we can see that with $1.14 billion of revenue, Zoom has the Operating Income $0.27 billion and Net Income $0.22 billion

That gives us a healthy financial numbers in terms of:

• Gross Profit Margin 76% and it is stable across time-series indicating that the company maintained its customer base and market share. This stability can be attributed to the continued reliance on video conferencing for remote work, education, and social interactions, even as the pandemic’s immediate effects waned.
• Operating Margin 17%
• Net Profit Margin 18% and it is recovering after 2022-2023
• Earnings quality 211% 

The decline in 2022-2023 in Operating income and Net Income corresponds with   in the operating profit and net income corresponds with increased R&D costs and to enhance its product offerings, improve security, and integrate new features like AI and hybrid work solutions. These investments, while essential for long-term growth, increased operating expenses and reduced operating income.

As a result total operating expenses have dropped from $ 953 millions in Q1 2023 down to $ 598 millions in Q1 2024.

“In Q1, we continued to integrate AI across our platform including Zoom Contact Center and Zoom Workplace, our AI-powered collaboration platform that provides customers the ability to reimagine teamwork by streamlining communications, increasing employee engagement, and improving productivity within their organizations,” said Eric S. Yuan, Zoom founder, and CEO. “These innovations combined with our execution and focused investment enabled us to outperform our guidance and drive operating cash flow growth of 40.6% and free cash flow growth of 43.6% year over year.”

Section 5: Financial Position and Efficiency

Zoom Balance Sheet overall looks solid with Assets $10.3 billion and rising Equity $8.3 billion, with no long-term debt. Assets predominantly consists of cash  $7.4billion, resulting in quite good ratios:

• Debt/Equity 0
• Current Ratio 4.31
• CFO/Debt NA

Return on equity is only 12% and according to the Eyestock investment philosophy it is lower than our benchmark by 8%, there is a room for improvement in management efficiency, possibly via using debt, but later when the interest rates would be lower. However Return on invested capital ROIC is 47%, well above our benchmark of 20% by 27%.

Section 6: Future Prospects

The future of Zoom looks promising, with several growth opportunities on the horizon. The company’s expansion into new markets, such as hybrid work solutions and international markets, presents significant potential for revenue growth.

Zoom is providing the following guidance for its second quarter of fiscal year 2025 and its full fiscal year 2025. Revenue in Q2 2024 is expected to be between $1.147 billion and $1.152 billion. Additionally there would be an impact of $1.350 billion of authorized share repurchase program.

Zoom’s focus on product innovations, including advancements in AI and virtual reality, could further enhance its competitive edge. However, Zoom faces challenges such as increasing competition and potential regulatory scrutiny. The evolving dynamics of remote work and digital communication are likely to play a pivotal role in shaping Zoom’s future trajectory.

Section 7: Conclusion

In summary, Zoom Video Communications has established itself as a leader in the digital communication space. The company’s strong financial performance, innovative approach, and strategic market expansion make ZM stock a compelling consideration for investors. While challenges exist, Zoom’s potential for sustained growth and market dominance remains high.

Section 8: Call to Action

Investors are encouraged to conduct thorough research and consider their risk tolerance before investing in ZM stock. Zoom’s impressive track record and future prospects make it a noteworthy addition to a diversified investment portfolio of value investors.

Right now ZM stock is trading below its minimum relative value, and trading at the lowest P/E 22.72 for the last 5 years. Providing an upside of 293.4%.