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Zoom Video Communications Cl A(ZM-Q)

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2 Reasons to Buy Zoom Stock, and 1 Reason to Sell

Motley Fool - Mon Sep 11, 4:20AM CDT

Zoom Video Communications(NASDAQ: ZM) stock hasn't lived up to its name in 2023. Shares of the videoconferencing specialist have trailed the broader market this year, rising just 8% through early September while the Nasdaq Composite has gained over 30%.

There are some good reasons for investors to feel conflicted about this software business. Zoom's late-August earnings update was mixed, to say the least, revealing sluggish sales growth but strong financial results. Let's take a look at whether the positive trends outweigh the negative right now.

Bullish factor No. 1: Zoom's enterprise segment

Zoom's overall sales growth has been modest this year, with revenue rising just 5% year over year in the most recent quarter. But focus on just the enterprise division -- which management has targeted as a key venue for future growth -- and the picture brightens.

Sales to larger companies were up 10% year over year last quarter to $660 million, translating into 57% of Zoom's total revenue haul. Growth here came through a combination of an expanding pool of customers plus higher spending. On average, enterprises renewed their contracts at 9% higher rates this year. Zoom is hoping to push that metric up over time as it adds more services to its communications platform. The company is also finding success in landing larger clients. These high-revenue contracts were up 18% last quarter to 3,700.

Bullish factor No. 2: Zoom has financial flexibility

Zoom is in an excellent financial position today that reflects management's prudent use of capital over the last few years. The company is generating plenty of cash, for one, with free cash flow landing at $750 million over the last six months compared to $783 million a year earlier. Net income has improved over that time, too. Zoom is also sitting on $6 billion of cash right now, giving management valuable flexibility as they target faster growth in 2024 and beyond.

Some of the biggest expansion initiatives involve generative artificial intelligence (AI), which is making its way into several service offerings including the company's conversational chatbot, Zoom Virtual Agent. Investors can expect to hear much more about AI upgrades aimed at boosting the value of its growing enterprise platform.

Bearish factor: Zoom is weighed down by the online business

Zoom's online segment, which was its main growth avenue through the pandemic, is still weighing down the wider business. That unit shrank by 4% in Q2, and churn (the percentage of customers who chose not to renew) ticked up to 3.2% from 3.1% in the prior quarter.

The good news is churn is improving when compared to a year ago, implying moderating losses ahead. Yet last month, executives lowered their financial projections for this segment in 2023 even as they raised their targets for the enterprise division.

Wait and see on Zoom Video

Zoom has solid potential to grow its sales base beyond the roughly $4.5 billion of annual revenue that management expects in 2023. And its financial fortitude means shareholders don't have to worry about the need for expensive restructuring or a pullback in necessary investments in areas like R&D.

Yet investors might still want to watch this software stock for more concrete signs that Zoom can speed up its overall sales trends. Without strong demand in the enterprise segment and a stable online business, it's hard to see a clear path toward impressive annual profits ahead.

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Demitri Kalogeropoulos has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Zoom Video Communications. The Motley Fool has a disclosure policy.

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