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Zoom Offers Value in the Expensive Tech Sector

Zoom Video Communications Inc. (NASDAQ:ZM) is at the top of the list of stocks that experienced their heyday during the global pandemic. Worldwide mobility restrictions and social distancing mandates fueled the growth of the remote work culture, from the corporate world to elementary schools. The newfound remote culture required effective connective measures. Something easier and more affordable. That's when Zoom jumped into the limelight with its up-to-40-minute free video conferencing service. The company's stock quickly found momentum amid these favorable business conditions and reached an all-time high of close to $560 in October 2020.

After enjoying the pandemic boom, the stock had shed most of its gains by December 2022. Since then, shares have traded in a range of between $60 and $70. In a nutshell, the company's share price has not changed much in over a year. Revenue growth has also been slow during this period, but today, Zoom seems to be undervalued as its recent strategic initiatives begin to deliver the desired results.

This analysis begins with a recap of its first-quarter earnings to understand where the company is headed. The macroeconomic outlook for the video conferencing market and Zoom's competitive positioning will then be analyzed to determine whether it is an attractive bet for long-term-oriented investors.

A promising start to fiscal 2025

Zoom's first-quarter earnings report showed some good signs in the face of a maturing video conferencing market. The company reported year-over-year revenue growth of 3% to $1.14 billion, which beat projections. The largest share of revenue now comes from the enterprise segment (58% of total revenue), which grew 5% year over year in the first quarter of fiscal 2025. Zoom achieved an impressive net income per share of $1.35, 15 cents above the guidance and 19 cents higher than the comparable quarter last year.

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When focusing on geographical segments, revenue from the Americas grew by 4%. The Europe, Middle East and Africa region's revenue increased by 2%, while Asia-Pacific revenue declined by 2% due to foreign exchange headwinds in Japan and Australia. Zoom also reported an operating cash flow of $588 million and generated $570 million in free cash flow.

The online average monthly churn recorded for the quarter was 3.20%, slightly higher due to stricter payment terms. Up-market customers grew by 8% year over year, with 3,883 customers contributing over $100,000 in trailing 12-month revenue, accounting for 30% of total sales, a slight increase from the previous year. Another noteworthy change that took place was the customer segmentation changes. Around 26,800 low-annual recurring revenue enterprise customers transitioned to online for better service and efficiency. However, it had a minimal impact on revenue (around $4 million shifted from enterprise to online).

The company is focused on incorporating artificial intelligence technology into its portfolio, especially in Zoom Workplace and business services. It can be seen from the growing popularity of the Zoom AI companion as well as the emphasis on the technology during calls. Other business products, such as Zoom Contact Center and Zoom Phone, are also getting more attention with bigger deals and an upmarket expansion.

Overall, it is evident that Zoom is focusing more on enterprise customers, which seems like a prudent strategy to lower churn and improve customer stickiness.

Competitive positioning

The pandemic era gave rise not only to Zoom, but also to its competitors, especially when it comes to the corporate sector. The company's main competitor in the corporate sector is Microsoft Corp.'s (NASDAQ:MSFT) Teams collaboration solutions. Additionally, Microsoft is integrating OpenAI's AI technology into its upgraded products, becoming a more prevalent threat.

Understanding the similarities and differences between these two video conference market leaders will give investors a better picture of its position in the market. Both Zoom and Microsoft Teams have a lot of features in common. Screen and app sharing, whiteboarding, voice calling, chat, personalized backdrops, breakout rooms, meeting recordings and session recording are all features provided by both of these tools to varying degrees on their paid plans and free options.

Meeting durations in Zoom's commercial subscriptions are limited to 30 hours, much like in Microsoft Teams. However, when it comes to free plans, the company excels with 60-minute meetings, while Zoom allows its free users to have one-on-one sessions lasting up to 30 hours, but just 40 minutes for group meetings. Zoom surpasses Microsoft Teams in file storage as it gives unlimited file storage, compared to Microsoft's limited storage at 1 terabyte per organization and 10 gigabytes per license.

Another strong point on Microsoft Teams' side is that its premium video conferencing solutions start at a very affordable $5 per month for subscription plans. However, this cannot be used to host large online events. Office 365 E3 is the only plan that allows you to host large-capacity events. On the contrary, a user may increase the size of the meetings to accommodate up to 1,000 people with Zoom's Large Meeting Add-On, which costs $50 per month. Users can host programs with up to 10,000 event participants using the Zoom Events and Webinars packages as well, making it attractive for corporate events, including the most coveted annual general meetings.

Zoom's strength has always been prioritizing user experience. The simple yet powerful user interface, which can be integrated with mobile devices, makes it convenient so that users do not have to download apps before meetings. Besides, unlike Teams, which can be clumsy for non-Office 365 users, Zoom has built a reputation for offering frictionless access to its video conferencing platform across many types of devices. Although the Zoom platform experienced several well-reported security incidents in 2020 that were dubbed "Zoombombing," the company has added many new security measures and has taken the initiative to address security threats. The Teams app is consistent with Microsoft's excellent reputation for user and data security, but the platform lacks in terms of accessibility on different types of devices.

Zoom also stands out in terms of user experience due to its integration capabilities. Compared to Microsoft Teams, Zoom is compatible with more than 1,000 applications. This creates a seamless user experience, which made the company popular in the first place.

One of Zoom's key strengths is its superb video and audio quality, both crucial elements in effective communication and a good meeting experience. Consequently, this concentration on quality differentiates it from other competitors who may give priority to other features. According to user reviews published on different platforms, Zoom has superior meeting quality compared to Teams and other products in the market, which is one of the main reasons why the app is wildly popular in the corporate world.

Lastly, Zoom has built a strong network effect. With its wide adoption rates comes familiarity, making it the first choice among millions of people around the world. The term "Zoom meeting" has become synonymous with video conferencing, thus giving the company an edge in terms of brand recognition as well.

According to data from Statista, Zoom was the clear leader in the videoconferencing software market in 2023 with a market share of just over 57%. Teams came in second with a market share of just 24.50%. Zoom, as evident, is controlling the videoconferencing market easily, which should help the platform attract more new users, thereby increasing the switching costs for existing users.

The future of the videoconferencing software market

The urgent adoption of videoconferencing platforms during the pandemic days and the lackluster growth that followed in the post-pandemic era has given rise to investor pessimism toward this industry as investors fear many of these platforms will not be able to grow sustainably in the long run. However, data-supported trends suggest otherwise.

On one hand, remote and hybrid work models are likely to continue to be popular. According to research conducted by Global Workplace Analytics, around 25% to 30% of the global workforce could be considered remote by the end of 2023. This necessitates stable video conferencing tools that enable interactions and collaborations across teams based in far-flung locations. Gartner, a leading research and advisory firm, also reveals that 40% of employees will be hybrid remote workers by the end of 2024.

Moreover, globalization as well as geographically diverse groups entail a need for video communication platforms. Nowadays, businesses are becoming more globalized, making it necessary to have access to effective tools through which people can communicate regardless of their geographical location. Video conferencing is bridging this gap, enabling face-to-face interaction and fostering collaboration between team members located in different parts of the globe.

At last, AI-embedded features such as real-time translation services integrated with video calls, automatic transcription services and sentiment analysis have become a major part of collaboration among teams as videoconferencing technology has evolved beyond just hosting meetings through Skype or Zoom sessions. Cisco, for example, estimates that about 60% of video conferences in 2024 will include AI for things like automatic note-taking and meeting summaries. In addition, advanced spatial audio technology that will enable more immersive and engaging meetings is set to drive user adoption further.

In conclusion, there is a positive outlook for the future of video communication systems despite a slowdown in adoption in the post-pandemic. The rise in remote and hybrid working, along with the growing need for collaboration beyond geographical boundaries coupled with ongoing technological advancements are all coming together to form a strong demand for these platforms. This means businesses will tend to see video conferencing tools as a vital investment, thus fueling their further growth in this area going forward.

Valuation is attractive

Zoom is currently valued at a forward price-earnings ratio of just 13 compared to the information technology sector median of 25. This massive divergence highlights investor expectations for lackluster growth in the foreseeable future.

According to Wall Street analyst estimates, Zoom's revenue will grow around 4% through fiscal 2030 before slowing down to a more modest 3% thereafter. Given the company's aggressive investments in AI and machine learning will eventually be phased out in a couple of years, earnings should grow faster than revenue through 2030.

The company, during the last quarter, repurchased stock worth $150 million as well, and regular buybacks will support earnings per share growth as the number of shares outstanding will decrease. Considering all these factors, Zoom seems very attractively priced for a growth company at just 13 times expected earnings.

Conclusion

Zoom started fiscal 2025 on the right foot by focusing on the enterprise business segment. With the videoconferencing market expected to grow aided by several tailwinds and Zoom being the clear market leader in this space, it is reasonable to conclude the company is well-positioned to grow. This, coupled with the attractive valuation, makes it an attractive bet on the future of the videoconferencing industry.

This article first appeared on GuruFocus.