DocuSign (NASDAQ:DOCU) is a firm that was born for the current climate, where a growing portion of workflows are sure to become digital. The e-signature business has been growing rapidly, and the company is exploring adjacent opportunities (e.g., contract analytics and agreement cloud) in order to become a one-stop solution for agreement management. This article reviews the business, the market opportunity, COVID-19 tailwinds, competition, valuation and risks. We conclude with our opinion on why DocuSign is a fortune maker stock with shares that can reasonably increase 10x over the next 10 years.
Overview
Incorporated in 2003, DocuSign was first listed on the Nasdaq in 2018. It started its journey as an e-signature solution provider and became the largest player in the business. Last year, the company announced the launch of DocuSign Agreement Cloud platform, an umbrella of service offerings, that helps customers manage the entire agreement workflow (i.e., preparing, signing, acting-on as well as agreement life cycle management). More recently, in order to further bolster its suite of products, DocuSign acquired Seal Software, an agreement analytics and AI technology service provider.
The company follows a subscription-based business model and essentially has 2 sources of revenue:
Subscription Revenue - This segment is driven by fees charged by DocuSign for use of its software platforms, as well as access for customer support. The company receives customer payments in advance for the entire subscription period and then amortizes the revenue over the term of contract. This is the primary source of revenue generation for the DocuSign. Subscriptions accounts for 94% of revenue, and the segment has a gross profit margin of 84%.
Professional Services - This segment includes deployment and integration fees charged by DocuSign for onboarding of new customers as well as revenue from the sale of on-premise solutions. Professional services account for only 6% of total revenue and has a gross loss margin of 12%, as this segment is primarily used to support the subscription revenue stream.
Source: DocuSign, Inc.
DocuSign acquires commercial and enterprise customers through its dedicated sales executive team, whereas individuals and small business segments are targeted through the company’s website. DocuSign has also entered into several partnerships and system integration contracts with large technology providers such as Google, Microsoft, Oracle, and SAP, which helps it reach a larger audience. As of FY '20, DocuSign had 585,000 customers, including over 70,000 enterprise and commercial customers. The company derives 82% of its revenue in the US.
Large and growing addressable market with significant ammunition to expand globally
DocuSign focuses on the niche markets of agreement lifecycle management and e-signatures, which combined have a total addressable market globally of $50 billion (with the e-signatures market accounting for roughly half of the value). Given the company’s revenue base, there is ample opportunity for it to achieve above-average growth over the foreseeable future.
“We estimate that our total customer base of over 585,000 customers represents 1% of the estimated enterprises, commercial businesses, and VSBs in our current core target market worldwide.”
- FY 2020, 10-K
DocuSign’s robust growth in the past few years has been driven by its success in the e-signature business, in which it enjoys a market share of around 70%. The company is now leveraging its market-leading position to cement its presence in the agreement management space as well. Agreements are a core need of most businesses, and DocuSign (through its product offerings) is targeting to simplify the agreement management needs of organizations.
“In fiscal 2020, 82% of all transactions on our DocuSign eSignature platform were completed in less than 24 hours and 50% within 15 minutes. Our other products also contribute to faster turnaround times, such as less time spent creating new agreements or less time spent finding completed agreements that include certain legal provisions.”
- FY 2020, 10-K
The company’s total addressable market (as well as market penetration) will get a boost from the recent acquisition of Seal Software. The acquisition will add analytics and AI capabilities to the DocuSign Agreement Cloud. Seal Software uses AI and machine learning tools to help users understand the risks and opportunities hidden in a contract.
“This technology can rapidly search large collections of agreements by legal concept rather than just by keywords. It can automatically extract, analyze and compare contract terms and it can even identify areas of risk and business opportunity for our customers.”
- Dan Springer, CEO, Q4 2020 call
Further, the company currently derives 82% of its revenue from the US, and thereby, only 18% internationally. There is a substantial untapped market internationally that it can explore and penetrate. DocuSign has recently appointed Rob Giglio as Chief Marketing Officer. Rob previously served at Adobe and oversaw Adobe’s self-service cloud business and was responsible for significant international expansion.
Significant tailwind from COVID-19
DocuSign has emerged as a winner in the work-from-home "new normal" post COVID-19. The full or partial shutdowns have led to a considerable increase in demand for the company’s electronic signatures as well as digital agreement cloud as organizations look for ways to continue business activity despite the constraints. Besides increased traditional needs such as executing financial, real estate or employer-employee contracts, DocuSign is also benefiting from additional use cases, such as physically distanced patient intake process at hospitals using e-forms and e-signatures, as well as digitization of court documents, telemedicine services, emergency loans to businesses by using e-signatures and DocuSign identity software, and e-notarization of documents in some US states.
“Look, we think that there's a digital transformation phenomenon that's going to occur. Whether episodes like this tragedy around coronavirus make some companies mildly accelerate that? I suppose it's possible. We think it's the long-term trend that's important and companies are realizing, there's a better way to do business getting rid of the paper-based processes, which are hard on themselves hard on their customers and hard on the environment.”
- Dan Springer, CEO, Q4 2020 call
DocuSign was ranked in the 11th position by Okta on the list of fastest-growing applications between February and March 2020 in terms of unique user logins. As per data collected by Okta, there was a 20% increase in the number of unique users who logged into DocuSign in March 2020 over February 2020 (note, we’ve also recently written up Zoom (ZM) too, available here).
Finally, Google Trends data shows that searches for DocuSign spiked once work-from-home policies were announced by organizations in March 2020.
First-mover advantage, strong partnerships and superior integrations provide a competitive edge
DocuSign is the largest player in the e-signature market segment with a lion’s share of around 70%. It faces competition from Adobe (ADBE) Sign, Barracuda’s SignNow, and Citrix’s (CTXS) RightSignature. Although competing e-signature products serve the same purpose, DocuSign is the go-to e-signature name because of its large-scale presence through hundreds of system integrations and service partners, which is also a reason for substantial interest from commercial customers. Having said that, currently, the e-signature market segment has very low penetration and the top 3-4 players have substantial opportunity to grow without hurting each other. On accessing independent ratings on G2, a business software and services review website, DocuSign’s user ratings are generally at the top of the pack. We disregarded RightSignature’s ratings due to comparatively smaller sample size of reviews. As evident in the table below, DocuSign beats Adobe Sign in all the key metrics and outperforms SignNow as well.
Source: G2
Finally, investors must also consider the expansion initiatives by DocuSign to evolve from a mere e-signature company to a one-stop cloud-based agreement management service provider, which, in turn, will make the company more indispensable to its customers.
Strong revenue growth led by customer acquisition and client productivity
DocuSign reported revenue of $974 million in FY '20, which represents a YoY growth rate of almost 40%. Please note that the company has consistently reported over 40% CAGR over the last 5 years. Total billings (which reflects sales to new customers plus subscription renewals and additional sales to existing customers) crossed the $1 billion mark in FY '20, increasing 38% from last year. Billings only includes the amount invoiced to customers during the year, which is later amortized as revenue over the period of the subscription contract.
The company’s growth has been driven by the combination of both an increase in number of customers as well as revenue per customer. The number of customers has grown from 370,000 in FY '18 to 585,000 in FY '20. There has been a substantial increase in the higher revenue-generating commercial and enterprise customers, which are now estimated to be around 70,000. Further, a considerable increase was observed in billings per customer, which grew from $1687 per customer in FY '19 to $1887 per customer in FY '20.
Increased scale translating into expanding margins
DocuSign turned adjusted net income positive last year. In FY '20, it reported adjusted operating profit of $47.3 million, which represents a YoY increase of 212%. Operating margins also expanded from 2% in FY '19 to 5% in FY '20. The expansion in margins is primarily a function of better leverage on expenses as the company scales up. DocuSign’s operating margin is likely to rise in the coming years as the company continues to onboard new customers and generate double-digit revenue growth. It guided to around 7% non-GAAP operating margin in FY '21; however, that was at the start of the COVID-19 lockdowns in the US, and there could be upside to the number if the company chooses not to invest the upside back into the business. The company has a long-term target of over 20% operating margin.
“In terms of the long-term operating model of 20% to 25% leverage, I think that we continue to track towards that. Again, I think fiscal 2020 both in terms of the growth in our cash flow and our bottom line is good evidence that we are tracking towards that. And we're going to continue to endeavor to find that right balance.”
- Mike Sheridan, CFO, Q4 2020 call
Current valuation needs to be looked at in the context of large growth potential
DocuSign stock has rallied over 90% since the lows in March and is currently trading at a price-to-sales ratio of 25 times, which some investors believe is rich based on the current earnings base. However, the current premium is justified because of the company’s strong fundamentals, significant future growth opportunity and a subscription-based business model. Besides, DocuSign is enjoying significant tailwinds from the coronavirus pandemic, which has accelerated the need for its services as working from remote locations and contactless business through Internet have become a post-pandemic reality.
In addition, DocuSign clearly has a strong strategic value for many organizations, and that aids valuation as well. E-signatures have gained more prominence in the "new normal", and therefore, the company’s strategic value to a mega tech company has increased manifold.
Risks
A protracted recession: If the economy goes into a long-lasting recession, the company’s growth rate may be impacted despite the tailwind from social distancing norms. Having said that, even in that scenario, we still expect the company to grow at a faster pace than the broader economy and the tech sector.
Competition: Although DocuSign currently enjoys a substantial share in the e-signature market segment, the accelerated shift to digitization of businesses after the COVID-19 outbreak has created an immense market opportunity, which may attract additional players in the e-signature market segment.
Conclusion
DocuSign is the largest player in the e-signature market with nearly 70% share, and the company is taking proactive steps to develop an ecosystem around its core business to further expand its moat. It has posted impressive growth over the years, and the future expansion opportunities are massive, especially after remote working policies are being adopted by organizations around the world. For these reasons, we have ranked DocuSign number 9 on our new reality fortune makers list (it beat out Alteryx (AYX) and is ranked right after our report on Farfetch (FTCH)). Long-term investors should view DocuSign's current valuation in the context of the company’s growth potential. In our view, DocuSign is a stock that can reasonably increase 10x over the next 10 years.
