ZoomInfo Technologies: A Bubble Waiting To Burst
- ZoomInfo has been in correction mode since February, declining ~25% from peaks.
- The company slid a further ~10% after its most recent fiscal Q1 earnings report.
- Though ZoomInfo continues to grow at a robust ~50% y/y pace and tack on big-name customers, sliding profitability is a question.
- Another issue is the fact that ZoomInfo has ample competitors and it's unclear how unique ZoomInfo's product is versus other lead-generation and management systems.
- ZoomInfo is still an incredibly expensive stock at ~30x forward revenue.
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The sky isn't falling just yet, but the shift in appetite toward growth and tech stocks is clearly being felt across the markets. This week, expensive tech names took a fresh leg down, including ZoomInfo Technologies (NASDAQ:ZI) - a software provider for sales and marketing teams that acts as both a lead-generation tool and a lead database.
ZoomInfo, however, had this correction coming for a long time. Long one of the most expensive software stocks in the market despite what I find to be a rather uninspiring product that competes against other well-known heavyweights (ZoomInfo has been able to produce rapid revenue growth over the past year, but consensus is expecting growth to slow down meaningfully over the next few years). The stock is now down ~25% from highs, and ~10% since the company's recent Q1 earnings release despite beating Wall Street's marks on the top and bottom line.
Yet, in my view, the bear market trend on ZoomInfo isn't even close to done yet. The key risk I see to ZoomInfo is its gigantic valuation in a time when investors are seemingly scrutinizing valuations for tech stocks more than they have in the past two years.
At ZoomInfo's current share prices near $48 (recall that the stock went public less than a year ago at $21 per share), the company has a market cap of $18.94 billion. After we net off the $353.7 million of cash and $738.7 million of debt on ZoomInfo's most recent balance sheet (another oddity in this stock is that it's one of the few fast-growing software companies to be carrying a net debt balance, instead of an ample net cash balance), its enterprise value is $19.33 billion.
For the current fiscal year, meanwhile, ZoomInfo has published a newly minted revenue guidance range of $670-$676 million, representing 42% y/y growth versus FY20 revenue of $476.2 million. Consensus is calling for only $838.7 million of revenue for FY22 as well (per Yahoo Finance), so ZoomInfo is slated to drop to the mid-20s growth by next year.
Figure 1. ZoomInfo FY21 outlookSource: ZoomInfo Q1 earnings release
Net/net, against these revenue outlooks, ZoomInfo trades at 28.7x EV/FY21 revenue (based on the company's current-year guidance) or 23.0x EV/FY22 revenue (based on consensus FY22 marks). This enormous valuation, meanwhile, is stacked against two key risks:
- Competition and deceleration. ZoomInfo is hardly the only lead-management tool on the market. Microsoft's LinkedIn (MSFT) is a notable competitor, as are other startups like UpLead and RocketReach. ZoomInfo also competes against "old school" sales resources like D&B Hoovers, or old-fashioned company-built rolodexes. In the face of this competition plus the fact that ZoomInfo has difficult comps heading into 2021 due to its greater scale, I'd be wary of investing at a peak valuation.
- Is ZoomInfo scaling well? Pro forma operating margins, which we'll cover shortly, have been sliding downward over the past several quarters. The company has continued outlaying princely sums on sales and marketing to chase growth - i.e., ZoomInfo is a "growth at all costs" company during a time when market sentiment has shifted toward the conservative side.
To me, ZoomInfo's still-rich valuation suggests that there's a further correction to be had. While investors may have ignored valuation in favor of ZoomInfo's superior growth rates in 2020, the much more cautious market in 2021 won't be favorable for a near-term rebound in ZoomInfo. I prefer to remain on the sidelines here and continue watching the stock's correction.
Let's now dig into ZoomInfo's latest Q1 results in more detail. While it's true that the company exceeded Wall Street's tame expectations for the quarter, there was no real "wow" factor in the results that can help to justify the stock's ~30x current-year revenue multiple. And so in the absence of any true positive upside surprises, the stock fell anyway.
The Q1 earnings summary is shown in the table below:
Figure 2. ZoomInfo Q1 resultsSource: ZoomInfo Q1 earnings release
ZoomInfo's revenue grew 50% y/y in Q1 to $153.3 million, beating Wall Street's expectations of $145.5 million (+42% y/y) by an eight-point margin. The company's revenue growth did, however, decelerate three points relative to 53% y/y growth in Q4 - which, in turn, had decelerated from 56% y/y growth in Q3.
On the bright side, ZoomInfo continues to land some exciting customers. Some of the recent new business and upsell deals that the company touts includes giants like Uber (UBER), Zoom (ZM), and Shopify (SHOP) - all three companies that saw meaningful portions of their business expand during the coronavirus. The company also ended Q4 with more than 950 customers that generated >$100k in ACV (annual contract value),
Figure 3. ZoomInfo recent winsSource: ZoomInfo Q1 investor presentation
One metric I'm potentially concerned about, however, is net revenue retention rates. For a software company that is growing so quickly, ZoomInfo's net retention rate has been rather sluggish. In Q4, as I reported in my prior article on the stock, the company reported a 108% net retention rate, which is lower than most other growth software companies in the ~110-120% range. In Q1, ZoomInfo stopped reporting the metric - suggesting that the numbers may be in a declining trend.
On the subject of retention, CFO Cameron Hyzer only noted anecdotally as follows on the Q1 earnings call:
During the first quarter, we continued to see strong new customer additions and positive momentum with respect to retention and upsell activity. We also continued to successfully execute against the large and growing enterprise opportunity. We had strong enterprise renewals and our enterprise upsell motion is really hitting its stride. In the quarter we doubled the number of greater than $100,000 ACV customers added as compared to the year ago period.
ZoomInfo has cited that it has a $1 billion revenue opportunity within its existing install base. Even if ZoomInfo were able to hold a ~108% net revenue retention rate (signaling 8% expansion from the current install base) and not see a further decline, it will take a while to build up from ZoomInfo's current ~$600 million in revenue run rate and add an incremental ~$400 million (67%) from existing clients alone.
The reason why net revenue retention rates are such a closely-watched metric is because it is far cheaper for a software company like ZoomInfo to upsell an existing client than to chase new business. If ZoomInfo's net revenue retention rates were stronger, it might have seen better operating profit expansion.
Unfortunately, as you can see in the slide below, ZoomInfo's pro forma operating margins have also been in a declining trend. Margins clocked in at 43% this quarter, four points weaker than 47% in the year-ago Q1 - and have seen a sequential decline since Q2 of 2020.
Figure 4. ZoomInfo operating margin trendsSource: ZoomInfo Q1 investor presentation
Netting it all out, ZoomInfo's growth metrics are still strong and above expectations - but there's little "wow factor" beyond the 50% y/y growth rate that helps to lend further support for ZoomInfo's bloated valuation. Amid a tech-sensitive market, I'd recommend being cautious on this stock.
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