Zoom (NASDAQ:ZM) has been one of the most volatile tech stocks of the last two years. After generating enormous returns in 2020 as COVID-19 lockdowns began, the stock cratered as workers began to return to their offices.
Today, ZM share price is arguably quite oversold, creating a potential buying opportunity for investors. But is this a case of catching a falling knife?
Zoom’s Business Model
At the outset of the pandemic, Zoom was widely used by individuals and businesses alike to maintain remote communications. The company’s video calling platform also made remote events possible, making it a key component of pandemic-era entertainment.
Fast forward to today, however, the need for Zoom’s services has largely faded among individuals. The company’s future is heavily dependent on business use, and it seems unlikely that this will change anytime in the near future.
Fortunately, Zoom does enjoy a significant moat in the world of business video chat software. Zoom is also creating unified communications solutions that make its platform more supportive for collaboration among remote workers. With enhanced communication tools, Zoom will likely continue to gain customers and maintain its status as a leading video meeting software provider.
Zoom is also likely to see sustained demand as remote work continues to flourish. Although the pandemic has ended, the trend of working from home has demonstrated a high degree of staying power.
By the end of 2023, one-quarter of America’s white-collar workforce is expected to be remote. Zoom’s future, therefore, lies in supporting this large contingent of remote workers that will remain long after the pandemic is a distant memory.
Zoom Revenue, Earnings and Growth
In Q3, Zoom reported revenue of $1.1 billion, up 5 percent from the same period in 2021. Much of the growth Zoom managed to achieve was thanks to strong performance among enterprise clients.
Revenue from enterprise sales rose 20 percent year-over-year to $614.3 million. Zoom also increased the number of customers generating at least $100,000 in annual revenue by 31 percent.
Earnings were down significantly from 2021, coming in at $0.21 per share compared to $0.99 a year ago. The reported earnings also missed the analyst consensus estimate by $0.05. Analysts expect earnings to improve in Q4 and going into 2023, potentially indicating a somewhat easier period for Zoom.
Although it has fallen off markedly in 2022, Zoom has significantly improved its operating margins over the last three years. Before the pandemic, Zoom’s margins were reliably in the low single digits.
Today, this number sits at a respectable 14.45 percent on a trailing 12-month basis. While this is lower than the peak of 27 percent reached in 2021, Zoom seems to be settling into a more normal trend of steady, sustainable profitability.
In the short to medium term, growth could be Zoom’s weak spot. Earnings growth for the next year is projected at -35 percent.
Over the next five years, the company is expected to grow at a compounded rate of -10.4 percent. This contraction is natural as the company comes off of its pandemic highs, but it does mean that Zoom could be more appealing to long-term investors than those looking at shorter time frames.
What Is Zoom Stock Worth?
Despite its challenges in the post-pandemic period, analysts broadly believe that Zoom will fare quite well in 2023.
Analysts consensus for Zoom is $85, nearly 30 percent above the current price of $65.47. Interestingly, the lowest price target among the 27 analysts covering the stock is $67, suggesting limited potential for downside.
Zoom’s valuation has also improved significantly as its price has dropped this year. Until late in 2021, Zoom’s P/E ratio was over 100.
Today, the stock trades at a much more reasonable 16.2 times expected earnings and 4.5 times sales. Even with a slow period ahead, these metrics suggest that Zoom could be a solid value play over the long haul.
Further supporting the value argument for Zoom is the fact that the company has massively increased its free cash flows thanks to its pandemic-era growth.
In the 12 months ending January of 2022, Zoom generated over $1.4 billion in free cash flow. In 2019, that number was just $22.9 million. While free cash flow may drop as earnings fall back, it’s clear that Zoom can kick off ample cash. This is especially true in light of the fact that the company carries no debt.
Zoom Margins Are Problematic
As noted above, operating margins have fallen from their 2021 highs. While this is to be expected, Zoom must prove that it can stabilize margins in the post-pandemic era. If the decline continues and margins approach pre-pandemic levels, the stock will struggle to regain traction.
Although such a drastic fall seems unlikely, investors should be aware that dropping margins could present a risk if the current trend continues.
Zoom could also suffer from a recession next year if businesses limit spending or cut their workforces. A retreat caused by a recession would likely be temporary, but investors could see stagnation or additional losses in the short term. Economists currently put the chances of a recession in 2023 at about 35 percent.
Where Will Zoom Stock Be In 3 Years?
Between solid valuation, decent long-term growth prospects, ample free cash flow and solid performance as the pandemic recedes, Zoom has a great deal to recommend it at today’s prices.
Although shrinking margins could present a risk, Zoom is doing far better in this area than it was before the pandemic. The company has also managed to avoid taking on debt, which protects it against rising interest rates and the risk of insolvency.
With all of this said, investors should not expect Zoom to rebound quickly. Current growth projections show that the company could be in for a rough patch in the short run. Long-term growth in demand for collaboration software and ongoing remote working trends, however, could make the stock a good choice on a longer time horizon.
Ultimately, Zoom appears to be a good choice for growth-oriented investors, but three years may not be enough for the company to fully hit its stride again.
There’s a good chance that the stock could produce strong returns over the coming 12 months, but those gains could taper off afterward.
Although it’s a longer-term play, investors who are willing to buy and hold Zoom could see better average returns over the 5-10 year time frame. If an economic boom bolsters the company’s growth, however, three years could see Zoom return to more positive territory.
Based on a discounted cash flow analysis, Zoom has an intrinsic value of $100.88 per share, suggesting as much as 54.1% upside from current levels.
The author has no position in any of the stocks mentioned. Financhill has a disclosure policy. This post may contain affiliate links or links from our sponsors.