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Zoom Video: Highly Profitable, but Competition Is Steep

Zoom Video Communications (ZM) is a very interesting company.

Its name has become synonymous with video conferencing over the past couple of years, as it has been one of the ultimate beneficiaries of the COVID-19 pandemic.

Zoom revenues quadrupled in 2020, as the work-from-home economy became the new norm. Due to the company’s fantastic scalability prospects, Zoom also enjoys jaw-dropping margins, which keep on expanding as its customer count grows.

In its latest quarterly results, Zoom reported year-over-year revenue growth of 54% to $1.02 billion. Net income grew 70.5% to $317 million, with net income margins expanding to around 31%.

Even if Zoom’s revenue growth decelerates, it’s quite likely that a margin expansion alone will keep satisfactory bottom-line growth levels due to how capital-light the company’s business model is.

I am bullish on the stock. (See ZM stock charts on TipRanks)

Bolstering Growth Through Five9

Earlier in July, the company capitalized on its ongoing momentum by announcing a $14.7-billion all-stock agreement to acquire Five9 (FIVN).

Hence, besides its own growth in the video conferencing space, Zoom should be able to unlock synergies and operational efficiencies with Five9’s platform.

Five9 features last-12-month revenues of $521.7 million. At its current price, the company is trading at around 18.5 times its forward sales.

Considering that Five9’s revenues grew 44% last quarter, Zoom does not appear to be heavily overpaying in this deal. That is especially the case if you assume that the merger will accelerate the financials of both companies.

It’s worth noting that Zoom performs greatly on the Rule of 40 too, which provides a useful benchmark for SaaS companies. Its 31% net margins, and 54% revenue growth assign it a score of 85 (a score above 40 is regarded as excellent).

Risks Remain

Despite Zoom’s attractive characteristics, risks remain.

Firstly, the company faces steep competition.

While various companies such as Cisco Systems (CSCO) offer their respective video conferencing solutions, it is Microsoft’s (MSFT) Teams that may redirect some of Zoom’s customers. This is because Microsoft can bundle Teams with its Office suite.

Considering Zoom’s forward P/E of 58.2, if competition materially slows down its growth in a post-COVID-19 world, shares are likely to take a hit.

Further, management guided for Q3 2022 revenues between $1.015 billion and $1.020 billion, suggesting growth of around 31% year-over-year.

This rate definitely shows signs of a slowdown, which, while natural and expected, could be worrying if Zoom’s net margin expansion also slows down in the short-term.

Wall Street’s Take

Turning to Wall Street, Zoom has a Moderate Buy consensus rating, based on 10 Buys, and eight Holds assigned in the past three months. At $375.85, the average ZM price target implies 31.9% upside potential.

Disclosure: At the time of publication, Nikolaos Sismanis did not have a position in any of the securities mentioned in this article.

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